Does Natural Alternatives International, Inc.’s (NASDAQ:NAII) ROCE Reflect Well On The Business?

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Today we are going to look at Natural Alternatives International, Inc. (NASDAQ:NAII) to see whether it might be an attractive investment prospect. In particular, we’ll consider its Return On Capital Employed (ROCE), as that can give us insight into how profitably the company is able to employ capital in its business.

First, we’ll go over how we calculate ROCE. Next, we’ll compare it to others in its industry. Finally, we’ll look at how its current liabilities affect its ROCE.

What is 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. All else being equal, a better business will have a higher ROCE. Overall, it is a valuable metric that has its flaws. Author Edwin Whiting says to be careful when comparing the ROCE of different businesses, since ‘No two businesses are exactly alike.’

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 Natural Alternatives International:

0.16 = US$13m ÷ (US$98m – US$18m) (Based on the trailing twelve months to March 2019.)

So, Natural Alternatives International has an ROCE of 16%.

Check out our latest analysis for Natural Alternatives International

Does Natural Alternatives International Have A Good ROCE?

When making comparisons between similar businesses, investors may find ROCE useful. We can see Natural Alternatives International’s ROCE is around the 19% average reported by the Personal Products industry. Independently of how Natural Alternatives International compares to its industry, its ROCE in absolute terms appears decent, and the company may be worthy of closer investigation.

NasdaqGM:NAII Past Revenue and Net Income, June 14th 2019
NasdaqGM:NAII Past Revenue and Net Income, June 14th 2019

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 deceptive for cyclical businesses, as returns can look incredible in boom times, and terribly low in downturns. ROCE is only a point-in-time measure. How cyclical is Natural Alternatives International? You can see for yourself by looking at this free graph of past earnings, revenue and cash flow.

Do Natural Alternatives International’s Current Liabilities Skew Its ROCE?

Short term (or current) liabilities, are things like supplier invoices, overdrafts, or tax bills 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.

Natural Alternatives International has total assets of US$98m and current liabilities of US$18m. Therefore its current liabilities are equivalent to approximately 18% of its total assets. Low current liabilities are not boosting the ROCE too much.

Our Take On Natural Alternatives International’s ROCE

Overall, Natural Alternatives International has a decent ROCE and could be worthy of further research. There might be better investments than Natural Alternatives International out there, but you will have to work hard to find them . These promising businesses with rapidly growing earnings might be right up your alley.

I will like Natural Alternatives International better if I see some big insider buys. While we wait, check out this free list of growing companies with considerable, recent, insider buying.

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 editorial-team@simplywallst.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.