Today we are going to look at Veritiv Corporation (NYSE:VRTV) to see whether it might be an attractive investment prospect. Specifically, we’ll consider its Return On Capital Employed (ROCE), since that will give us an insight into how efficiently the business can generate profits from the capital it requires.
First up, we’ll look at what ROCE is and how we calculate it. Then we’ll compare its ROCE to similar companies. And finally, we’ll look at how its current liabilities are impacting its ROCE.
Return On Capital Employed (ROCE): What is it?
ROCE measures the amount of pre-tax profits a company can generate from the capital employed in its business. Generally speaking a higher ROCE is better. In brief, ROCE is a useful tool, but it is not without drawbacks. Renowned investment researcher Michael Mauboussin has suggested that a high ROCE can indicate that ‘one dollar invested in the company generates value of more than one dollar’.
So, How Do We Calculate ROCE?
The formula for calculating the return on capital employed is:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets – Current Liabilities)
Or for Veritiv:
0.046 = US$83m ÷ (US$2.6b – US$938m) (Based on the trailing twelve months to September 2018.)
Therefore, Veritiv has an ROCE of 4.6%.
Does Veritiv Have A Good ROCE?
ROCE is commonly used for comparing the performance of similar businesses. Using our data, Veritiv’s ROCE appears to be significantly below the 8.0% average in the Trade Distributors industry. This performance is not ideal, as it suggests the company may not be deploying its capital as effectively as some competitors. Regardless of how Veritiv stacks up against its industry, its ROCE in absolute terms is quite low (not much higher than a bank account). Readers may wish to look for more rewarding investments.
When considering this metric, keep in mind that it is backwards looking, and 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. ROCE is only a point-in-time measure. Since the future is so important for investors, you should check out our free report on analyst forecasts for Veritiv.
What Are Current Liabilities, And How Do They Affect Veritiv’s ROCE?
Short term (or current) liabilities, are things like supplier invoices, overdrafts, or tax bills that need to be paid within 12 months. 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.
Veritiv has total assets of US$2.6b and current liabilities of US$938m. Therefore its current liabilities are equivalent to approximately 36% of its total assets. With a medium level of current liabilities boosting the ROCE a little, Veritiv’s low ROCE is unappealing.
The Bottom Line On Veritiv’s ROCE
So researching other companies may be a better use of your time. A higher ROCE is usually more attractive, but even a weaker business with the right price and opportunities can make a good investment. It could be worth checking if insiders have been buying or selling .
But note: Veritiv may not be the best stock to buy. So take a peek at this free list of interesting companies with high ROE and low debt.
To help readers see past the short term volatility of the financial market, we aim to bring you a long-term focused research analysis purely driven by fundamental data. Note that our analysis does not factor in the latest price-sensitive company announcements.
The author is an independent contributor and at the time of publication had no position in the stocks mentioned. For errors that warrant correction please contact the editor at firstname.lastname@example.org.