Why CNH Industrial N.V.’s (NYSE:CNHI) Use Of Investor Capital Doesn’t Look Great

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Today we are going to look at CNH Industrial N.V. (NYSE:CNHI) to see whether it might be an attractive investment prospect. To be precise, we’ll consider its Return On Capital Employed (ROCE), as that will inform our view of the quality of the business.

First up, we’ll look at what ROCE is and how we calculate it. Then we’ll compare its ROCE to similar companies. Then we’ll determine how its current liabilities are affecting its ROCE.

Understanding Return On Capital Employed (ROCE)

ROCE measures the ‘return’ (pre-tax profit) a company generates from capital employed in its business. In general, businesses with a higher ROCE are usually better quality. In brief, it is a useful tool, but it is not without drawbacks. Author Edwin Whiting says to be careful when comparing the ROCE of different businesses, since ‘No two businesses are exactly alike.’

So, How Do We Calculate ROCE?

Analysts use this formula to calculate return on capital employed:

Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets – Current Liabilities)

Or for CNH Industrial:

0.065 = US$1.7b ÷ (US$46b – US$20b) (Based on the trailing twelve months to December 2018.)

So, CNH Industrial has an ROCE of 6.5%.

See our latest analysis for CNH Industrial

Is CNH Industrial’s ROCE Good?

One way to assess ROCE is to compare similar companies. Using our data, CNH Industrial’s ROCE appears to be significantly below the 11% average in the Machinery industry. This performance could be negative if sustained, as it suggests the business may underperform its industry. Aside from the industry comparison, CNH Industrial’s ROCE is mediocre in absolute terms, considering the risk of investing in stocks versus the safety of a bank account. Readers may find more attractive investment prospects elsewhere.

Our data shows that CNH Industrial currently has an ROCE of 6.5%, compared to its ROCE of 3.2% 3 years ago. This makes us think the business might be improving.

NYSE:CNHI Past Revenue and Net Income, May 6th 2019
NYSE:CNHI Past Revenue and Net Income, May 6th 2019

It is important to remember that ROCE shows past performance, and is not necessarily predictive. Companies in cyclical industries can be difficult to understand using ROCE, as returns typically look high during boom times, and low during busts. ROCE is, after all, simply a snap shot of a single year. What happens in the future is pretty important for investors, so we have prepared a free report on analyst forecasts for CNH Industrial.

CNH Industrial’s Current Liabilities And Their Impact On Its ROCE

Current liabilities are short term bills and invoices that need to be paid in 12 months or less. Due to the way the ROCE equation works, having large bills due in the near term can make it look as though a company has less capital employed, and thus a higher ROCE than usual. To counter this, investors can check if a company has high current liabilities relative to total assets.

CNH Industrial has total assets of US$46b and current liabilities of US$20b. Therefore its current liabilities are equivalent to approximately 43% of its total assets. CNH Industrial has a medium level of current liabilities, which would boost its ROCE somewhat.

Our Take On CNH Industrial’s ROCE

With this level of liabilities and a mediocre ROCE, there are potentially better investments out there. Of course, you might also be able to find a better stock than CNH Industrial. So you may wish to see this free collection of other companies that have grown earnings strongly.

I will like CNH Industrial better if I see some big insider buys. While we wait, check out this free list of growing companies with considerable, recent, insider buying.

We aim to bring you long-term focused research analysis driven by fundamental data. Note that our analysis may not factor in the latest price-sensitive company announcements or qualitative material.

If you spot an error that warrants correction, please contact the editor at editorial-team@simplywallst.com. This article by Simply Wall St is general in nature. It does not constitute a recommendation to buy or sell any stock, and does not take account of your objectives, or your financial situation. Simply Wall St has no position in the stocks mentioned. Thank you for reading.