Scholastic Corporation (NASDAQ:SCHL): Why Return On Capital Employed Is Important

I am writing today to help inform people who are new to the stock market and want to begin learning the link between Scholastic Corporation (NASDAQ:SCHL)’s return fundamentals and stock market performance.

Purchasing Scholastic gives you an ownership stake in the company. This share represents a portion of capital used by the company to operate the business, and it is important the company is able to use the capital base efficiently to create adequate cash flows for you as an investor. You need to pay attention to this because your return on investment is linked to dividends and internal investments to improve the business, which can only occur if the company is expected to produce adequate earnings with the capital that has been provided. Thus, to understand how your money can grow by investing in Scholastic, you need to look at what the company returns to owners for the use of their capital, which can be done in many ways but today we will use return on capital employed (ROCE).

View our latest analysis for Scholastic

ROCE: Explanation and Calculation

When you choose to invest in a company, there is an opportunity cost because that money could’ve been invested elsewhere. The cost of missing out on another opportunity comes in the form of the potential long term gain you could’ve received, which is dependent on the gap between the return on capital you could’ve achieved and that of the company you invested in. Hence, capital returns are very important, and should be examined before you invest in conjunction with a certain benchmark that represents the minimum return you require to be compensated for the risk of missing out on other potentially lucrative investments. We’ll look at Scholastic’s returns by computing return on capital employed, which will tell us what the company can generate from the money spent in operations. SCHL’s ROCE is calculated below:

ROCE Calculation for SCHL

Return on Capital Employed (ROCE) = Earnings Before Tax (EBT) ÷ (Capital Employed)

Capital Employed = (Total Assets – Current Liabilities)

∴ ROCE = US$89m ÷ (US$1.9b – US$631m) = 6.9%

As you can see, SCHL earned $6.9 from every $100 you invested over the previous twelve months. This shows Scholastic provides a dull capital return that is below the 15% ROCE that is typically considered to be a strong benchmark. Nevertheless, if SCHL is clever with their reinvestments or dividend payments, investors can still grow their capital but may fall behind other more attractive opportunities in the market.

NasdaqGS:SCHL Last Perf November 28th 18
NasdaqGS:SCHL Last Perf November 28th 18

What is causing this?

The underperforming ROCE is not ideal for Scholastic investors if the company is unable to turn things around. But if the underlying variables (earnings and capital employed) improve, SCHL’s ROCE may increase, in which case your portfolio could benefit from holding the company. So it is important for investors to understand what is going on under the hood and look at how these variables have been behaving. Looking three years in the past, it is evident that SCHL’s ROCE has risen from 5.2%, indicating the company’s capital returns have stengthened. We can see that earnings have increased from US$53m to US$89m whilst the amount of capital employed has declined as a result of a larger reliance on current liabilities (more borrowed money) , which means that ROCE has increased as a result of Scholastic’s ability to grow earnings in conjunction with increased capital efficiency.

Next Steps

Despite SCHL’s current ROCE remains at an unattractive level, the company has triggered an upward trend over the recent past which could signal an opportunity for a solid return on investment in the long term. It is important to know that ROCE does not dictate returns alone, so you need to consider other fundamentals in the business such as future prospects and valuation to determine if an opportunity exists that isn’t made apparent by looking at past data. If you’re building your portfolio and want to take a deeper look, I’ve added a few links below that will help you further evaluate SCHL or move on to other alternatives.

  1. Future Outlook: What are well-informed industry analysts predicting for SCHL’s future growth? Take a look at our free research report of analyst consensus for SCHL’s outlook.
  2. Valuation: What is SCHL worth today? Despite the unattractive ROCE, is the outlook correctly factored in to the price? The intrinsic value infographic in our free research report helps visualize whether SCHL is currently undervalued by the market.
  3. Other High-Performing Stocks: Are there other stocks that provide better prospects with proven track records? Explore our free list of these great stocks here.

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.