Why John B. Sanfilippo & Son, Inc.’s (NASDAQ:JBSS) Return On Capital Employed Is Impressive

Today we’ll look at John B. Sanfilippo & Son, Inc. (NASDAQ:JBSS) and reflect on its potential as an investment. 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. Second, we’ll look at its ROCE compared to similar companies. Then we’ll determine how its current liabilities are affecting its ROCE.

Understanding Return On Capital Employed (ROCE)

ROCE measures the amount of pre-tax profits a company can generate from the capital employed in its business. In general, businesses with a higher ROCE are usually better quality. Ultimately, it is a useful but imperfect metric. 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 John B. Sanfilippo & Son:

0.17 = US\$53m ÷ (US\$415m – US\$140m) (Based on the trailing twelve months to September 2018.)

Therefore, John B. Sanfilippo & Son has an ROCE of 17%.

Does John B. Sanfilippo & Son Have A Good ROCE?

One way to assess ROCE is to compare similar companies. John B. Sanfilippo & Son’s ROCE appears to be substantially greater than the 8.6% average in the Food industry. We would consider this a positive, as it suggests it is using capital more effectively than other similar companies. Independently of how John B. Sanfilippo & Son compares to its industry, its ROCE in absolute terms appears decent, and the company may be worthy of closer investigation.

When considering this metric, keep in mind that it is backwards looking, and 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. This is because ROCE only looks at one year, instead of considering returns across a whole cycle. If John B. Sanfilippo & Son is cyclical, it could make sense to check out this free graph of past earnings, revenue and cash flow.

John B. Sanfilippo & Son’s Current Liabilities And Their Impact On Its ROCE

Current liabilities include invoices, such as supplier payments, short-term debt, or a tax bill, that need to be paid within 12 months. The ROCE equation subtracts current liabilities from capital employed, so a company with a lot of current liabilities appears to have less capital employed, and a higher ROCE than otherwise. To counteract this, we check if a company has high current liabilities, relative to its total assets.

John B. Sanfilippo & Son has total assets of US\$415m and current liabilities of US\$140m. Therefore its current liabilities are equivalent to approximately 34% of its total assets. With this level of current liabilities, John B. Sanfilippo & Son’s ROCE is boosted somewhat.

The Bottom Line On John B. Sanfilippo & Son’s ROCE

John B. Sanfilippo & Son’s ROCE does look good, but the level of current liabilities also contribute to that. A good or bad ROCE tells us something about a business, but we need to do more research before making a purchase. One data point to check is if insiders have bought shares recently.

Of course John B. Sanfilippo & Son may not be the best stock to buy. So you may wish to see this free collection of other companies that have 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 editorial-team@simplywallst.com.