Why We’re Not Keen On Computer Programs and Systems, Inc.’s (NASDAQ:CPSI) 8.7% Return On Capital

Today we are going to look at Computer Programs and Systems, Inc. (NASDAQ:CPSI) to see whether it might be an attractive investment prospect. 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. Next, we’ll compare it to others in its industry. And finally, we’ll look at how its current liabilities are impacting its ROCE.

Understanding Return On Capital Employed (ROCE)

ROCE is a measure of a company’s yearly pre-tax profit (its return), relative to the capital employed in the business. Generally speaking a higher ROCE is better. 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 Computer Programs and Systems:

0.087 = US$23m ÷ (US$327m – US$39m) (Based on the trailing twelve months to September 2018.)

So, Computer Programs and Systems has an ROCE of 8.7%.

Check out our latest analysis for Computer Programs and Systems

Does Computer Programs and Systems Have A Good ROCE?

One way to assess ROCE is to compare similar companies. It appears that Computer Programs and Systems’s ROCE is fairly close to the Healthcare Services industry average of 8.1%. Setting aside the industry comparison for now, Computer Programs and Systems’s ROCE is mediocre in absolute terms, considering the risk of investing in stocks versus the safety of a bank account. Investors may wish to consider higher-performing investments.

Computer Programs and Systems’s current ROCE of 8.7% is lower than its ROCE in the past, which was 38%, 3 years ago. So investors might consider if it has had issues recently.

NasdaqGS:CPSI Last Perf December 15th 18
NasdaqGS:CPSI Last Perf December 15th 18

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 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 Computer Programs and Systems.

How Computer Programs and Systems’s Current Liabilities Impact 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. 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 check the impact of this, we calculate if a company has high current liabilities relative to its total assets.

Computer Programs and Systems has total assets of US$327m and current liabilities of US$39m. Therefore its current liabilities are equivalent to approximately 12% of its total assets. This is a modest level of current liabilities, which would only have a small effect on ROCE.

What We Can Learn From Computer Programs and Systems’s ROCE

That said, Computer Programs and Systems’s ROCE is mediocre, there may be more attractive investments around. The ROCE can give us an idea of the quality of a business, but we need to look deeper if we are considering a purchase. For example you might check if insiders are buying shares.

Of course, you might find a fantastic investment by looking elsewhere. So take a peek at this free list of interesting companies.

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.