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Today we’ll evaluate LifeVantage Corporation (NASDAQ:LFVN) to determine whether it could have potential as an investment idea. 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, we’ll go over how we calculate ROCE. Second, we’ll look at its ROCE compared to similar companies. Then we’ll determine how its current liabilities are affecting 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. In general, businesses with a higher ROCE are usually better quality. 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 LifeVantage:
0.32 = US$8.4m ÷ (US$54m – US$27m) (Based on the trailing twelve months to March 2019.)
So, LifeVantage has an ROCE of 32%.
Does LifeVantage Have A Good ROCE?
ROCE can be useful when making comparisons, such as between similar companies. Using our data, we find that LifeVantage’s ROCE is meaningfully better than the 22% average in the Personal Products industry. We would consider this a positive, as it suggests it is using capital more effectively than other similar companies. Regardless of the industry comparison, in absolute terms, LifeVantage’s ROCE currently appears to be excellent.
LifeVantage’s current ROCE of 32% is lower than 3 years ago, when the company reported a 58% ROCE. So investors might consider if it has had issues recently.
It is important to remember that ROCE shows past performance, and is not necessarily predictive. ROCE can be deceptive for cyclical businesses, as returns can look incredible in boom times, and terribly low in downturns. This is because ROCE only looks at one year, instead of considering returns across a whole cycle. How cyclical is LifeVantage? You can see for yourself by looking at this free graph of past earnings, revenue and cash flow.
How LifeVantage’s Current Liabilities Impact Its 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 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.
LifeVantage has total assets of US$54m and current liabilities of US$27m. As a result, its current liabilities are equal to approximately 51% of its total assets. LifeVantage boasts an attractive ROCE, even after considering the boost from high current liabilities.
What We Can Learn From LifeVantage’s ROCE
So to us, the company is potentially worth investigating further. LifeVantage 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.
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 firstname.lastname@example.org. 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.