Today we’ll evaluate America’s Car-Mart, Inc. (NASDAQ:CRMT) to determine whether it could have potential as an investment idea. 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 up, we’ll look at what ROCE is and how we calculate it. Next, we’ll compare it to others in its industry. Last but not least, we’ll look at what impact its current liabilities have on its ROCE.
What is Return On Capital Employed (ROCE)?
ROCE measures the ‘return’ (pre-tax profit) a company generates from capital employed in its business. In general, businesses with a higher ROCE are usually better quality. 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’.
How Do You Calculate Return On Capital Employed?
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 America’s Car-Mart:
0.14 = US$63m ÷ (US$494m – US$32m) (Based on the trailing twelve months to January 2019.)
Therefore, America’s Car-Mart has an ROCE of 14%.
Does America’s Car-Mart Have A Good ROCE?
ROCE can be useful when making comparisons, such as between similar companies. Using our data, America’s Car-Mart’s ROCE appears to be around the 14% average of the Specialty Retail industry. Regardless of where America’s Car-Mart sits next to its industry, its ROCE in absolute terms appears satisfactory, and this company could be worth a closer look.
In our analysis, America’s Car-Mart’s ROCE appears to be 14%, compared to 3 years ago, when its ROCE was 7.0%. This makes us think about whether the company has been reinvesting shrewdly.
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 only a point-in-time measure. What happens in the future is pretty important for investors, so we have prepared a free report on analyst forecasts for America’s Car-Mart.
Do America’s Car-Mart’s Current Liabilities Skew Its ROCE?
Liabilities, such as supplier bills and bank overdrafts, are referred to as current liabilities if they 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 check the impact of this, we calculate if a company has high current liabilities relative to its total assets.
America’s Car-Mart has total assets of US$494m and current liabilities of US$32m. As a result, its current liabilities are equal to approximately 6.4% of its total assets. With low current liabilities, America’s Car-Mart’s decent ROCE looks that much more respectable.
What We Can Learn From America’s Car-Mart’s ROCE
This is good to see, and while better prospects may exist, America’s Car-Mart seems worth researching further. There might be better investments than America’s Car-Mart 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.
If you like to buy stocks alongside management, then you might just love this free list of companies. (Hint: insiders have been buying them).
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.