Today we’ll look at Take-Two Interactive Software, Inc. (NASDAQ:TTWO) and reflect on its potential as an investment. Specifically, we’re going to calculate its Return On Capital Employed (ROCE), in the hopes of getting some insight into the business.
First, 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.
Return On Capital Employed (ROCE): What is it?
ROCE is a measure of a company’s yearly pre-tax profit (its return), relative to the capital employed in the 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. 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?
Analysts use this formula to calculate return on capital employed:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets – Current Liabilities)
Or for Take-Two Interactive Software:
0.10 = US$233m ÷ (US$4.4b – US$2.1b) (Based on the trailing twelve months to December 2018.)
Therefore, Take-Two Interactive Software has an ROCE of 10%.
Is Take-Two Interactive Software’s ROCE Good?
When making comparisons between similar businesses, investors may find ROCE useful. We can see Take-Two Interactive Software’s ROCE is around the 10% average reported by the Entertainment industry. Aside from the industry comparison, Take-Two Interactive Software’s ROCE is mediocre in absolute terms, considering the risk of investing in stocks versus the safety of a bank account. Readers may find more attractive investment prospects elsewhere.
Take-Two Interactive Software delivered an ROCE of 10%, which is better than 3 years ago, as was making losses back then. That implies the business has been improving.
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 misleading for companies in cyclical industries, with returns looking impressive during the boom times, but very weak during the busts. ROCE is, after all, simply a snap shot of a single year. Since the future is so important for investors, you should check out our free report on analyst forecasts for Take-Two Interactive Software.
What Are Current Liabilities, And How Do They Affect Take-Two Interactive Software’s ROCE?
Current liabilities are short term bills and invoices that need to be paid in 12 months or less. 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 check the impact of this, we calculate if a company has high current liabilities relative to its total assets.
Take-Two Interactive Software has total assets of US$4.4b and current liabilities of US$2.1b. Therefore its current liabilities are equivalent to approximately 48% of its total assets. Take-Two Interactive Software’s ROCE is improved somewhat by its moderate amount of current liabilities.
Our Take On Take-Two Interactive Software’s ROCE
With this level of liabilities and a mediocre ROCE, there are potentially better investments out there. Of course, you might find a fantastic investment by looking at a few good candidates. So take a peek at this free list of companies with modest (or no) debt, trading on a P/E below 20.
If you are like me, then you will not want to miss this free list of growing companies that insiders are buying.
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If you spot an error that warrants correction, please contact the editor at email@example.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.