Today we are going to look at AudioCodes Ltd. (NASDAQ:AUDC) to see whether it might be an attractive investment prospect. Specifically, we’re going to calculate its Return On Capital Employed (ROCE), in the hopes of getting some insight into the business.
First of all, we’ll work out how to calculate ROCE. Second, we’ll look at its ROCE compared to similar companies. Finally, we’ll look at how its current liabilities affect its ROCE.
Return On Capital Employed (ROCE): What is it?
ROCE is a metric for evaluating how much pre-tax income (in percentage terms) a company earns on the capital invested in its business. Generally speaking a higher ROCE is better. Ultimately, it is a useful but imperfect metric. Author Edwin Whiting says to be careful when comparing the ROCE of different businesses, since ‘No two businesses are exactly alike.’
How Do You Calculate Return On Capital Employed?
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 AudioCodes:
0.13 = US$17m ÷ (US$179m – US$55m) (Based on the trailing twelve months to December 2018.)
Therefore, AudioCodes has an ROCE of 13%.
Is AudioCodes’s ROCE Good?
ROCE can be useful when making comparisons, such as between similar companies. AudioCodes’s ROCE appears to be substantially greater than the 8.0% average in the Communications industry. We would consider this a positive, as it suggests it is using capital more effectively than other similar companies. Independently of how AudioCodes compares to its industry, its ROCE in absolute terms appears decent, and the company may be worthy of closer investigation.
In our analysis, AudioCodes’s ROCE appears to be 13%, compared to 3 years ago, when its ROCE was 1.8%. This makes us think the business might be improving.
When considering this metric, keep in mind that it is backwards looking, and not necessarily predictive. Companies in cyclical industries can be difficult to understand using ROCE, as returns typically look high during boom times, and low during 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 AudioCodes.
AudioCodes’s Current Liabilities And Their Impact On Its ROCE
Current liabilities include invoices, such as supplier payments, short-term debt, or a tax bill, 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 counter this, investors can check if a company has high current liabilities relative to total assets.
AudioCodes has total liabilities of US$55m and total assets of US$179m. As a result, its current liabilities are equal to approximately 31% of its total assets. AudioCodes has a middling amount of current liabilities, increasing its ROCE somewhat.
What We Can Learn From AudioCodes’s ROCE
AudioCodes’s ROCE does look good, but the level of current liabilities also contribute to that. You might be able to find a better buy than AudioCodes. If you want a selection of possible winners, check out this free list of interesting companies that trade on a P/E below 20 (but have proven they can grow earnings).
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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.