Today we’ll evaluate CONSOL Energy Inc. (NYSE:CEIX) to determine whether it could have potential as an investment idea. Specifically, we’re going to calculate its Return On Capital Employed (ROCE), in the hopes of getting some insight into the business.
Firstly, we’ll go over how we calculate ROCE. Then we’ll compare its ROCE to similar companies. Finally, we’ll look at how its current liabilities affect its ROCE.
Understanding Return On Capital Employed (ROCE)
ROCE is a metric for evaluating how much pre-tax income (in percentage terms) a company earns on the capital invested in its business. Generally speaking a higher ROCE is better. In brief, it 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 CONSOL Energy:
0.10 = US$238m ÷ (US$2.8b – US$417m) (Based on the trailing twelve months to March 2019.)
Therefore, CONSOL Energy has an ROCE of 10%.
Want to participate in a short research study? Help shape the future of investing tools and you could win a $250 gift card!
Does CONSOL Energy Have A Good ROCE?
One way to assess ROCE is to compare similar companies. CONSOL Energy’s ROCE appears to be substantially greater than the 7.7% average in the Oil and Gas industry. We would consider this a positive, as it suggests it is using capital more effectively than other similar companies. Setting aside the industry comparison for now, CONSOL Energy’s ROCE is mediocre in absolute terms, considering the risk of investing in stocks versus the safety of a bank account. It is possible that there are more rewarding investments out there.
CONSOL Energy’s current ROCE of 10% is lower than 3 years ago, when the company reported a 14% ROCE. This makes us wonder if the business is facing new challenges.
Remember that this metric is backwards looking – it shows what has happened in the past, and does not accurately predict the future. 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. Remember that most companies like CONSOL Energy are cyclical businesses. What happens in the future is pretty important for investors, so we have prepared a free report on analyst forecasts for CONSOL Energy.
CONSOL Energy’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 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.
CONSOL Energy has total assets of US$2.8b and current liabilities of US$417m. As a result, its current liabilities are equal to approximately 15% of its total assets. This very reasonable level of current liabilities would not boost the ROCE by much.
Our Take On CONSOL Energy’s ROCE
If CONSOL Energy continues to earn an uninspiring ROCE, there may be better places to invest. Of course, you might also be able to find a better stock than CONSOL Energy. So you may wish to see this free collection of other companies that have grown earnings strongly.
If you like to buy stocks alongside management, then you might just love this free list of companies. (Hint: insiders have been buying them).
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 email@example.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.