Why We Like Rockwell Automation, Inc.’s (NYSE:ROK) 26% Return On Capital Employed

Today we'll evaluate Rockwell Automation, Inc. (NYSE:ROK) to determine whether it could have potential as an investment idea. 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. Last but not least, we'll look at what impact its current liabilities have on its ROCE.

Understanding Return On Capital Employed (ROCE)

ROCE measures the 'return' (pre-tax profit) a company generates from capital employed in its business. Generally speaking a higher ROCE is better. 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.

How Do You Calculate Return On Capital Employed?

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 Rockwell Automation:

0.26 = US$1.3b ÷ (US$7.1b - US$2.1b) (Based on the trailing twelve months to December 2019.)

Therefore, Rockwell Automation has an ROCE of 26%.

See our latest analysis for Rockwell Automation

Does Rockwell Automation Have A Good ROCE?

ROCE is commonly used for comparing the performance of similar businesses. Using our data, we find that Rockwell Automation's ROCE is meaningfully better than the 9.9% average in the Electrical industry. I think that's good to see, since it implies the company is better than other companies at making the most of its capital. Putting aside its position relative to its industry for now, in absolute terms, Rockwell Automation's ROCE is currently very good.

The image below shows how Rockwell Automation's ROCE compares to its industry, and you can click it to see more detail on its past growth.

It is important to remember that ROCE shows past performance, and is not necessarily predictive. ROCE can be misleading for companies in cyclical industries, with returns looking impressive during the boom times, but very weak during the busts. This is because ROCE only looks at one year, instead of considering returns across a whole cycle. Future performance is what matters, and you can see analyst predictions in our free report on analyst forecasts for the company.

Do Rockwell Automation's Current Liabilities Skew Its ROCE?

Liabilities, such as supplier bills and bank overdrafts, are referred to as current liabilities if they need to be paid within 12 months. Due to the way ROCE is calculated, a high level of current liabilities makes a company look as though it has less capital employed, and thus can (sometimes unfairly) boost the ROCE. To counter this, investors can check if a company has high current liabilities relative to total assets.

Rockwell Automation has current liabilities of US$2.1b and total assets of US$7.1b. As a result, its current liabilities are equal to approximately 29% of its total assets. A minimal amount of current liabilities limits the impact on ROCE.

The Bottom Line On Rockwell Automation's ROCE

, Rockwell Automation looks strong on this analysis, but there are plenty of other companies that could be a good opportunity . Here is a free list of companies growing earnings rapidly.

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

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.

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