This article is intended for those of you who are at the beginning of your investing journey and want a simplistic look at the return on DryShips Inc (NASDAQ:DRYS) stock.
Purchasing DryShips gives you an ownership stake in the company. Your equity share is granted in return for the capital provided to the business to operate, and in order for an investment to be successful the business has to create earnings from the funds that make up this capital. Your return is tied to DRYS’s ability to do this because the amount earned is used to invest in opportunities to grow the business or payout dividends, which are the two sources of return on investment. Thus, to understand how your money can grow by investing in DryShips, 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).
DryShips’s Return On Capital Employed
You only have a finite amount of capital to invest, so there are only so many companies that you can add to your portfolio. Therefore all else aside, your investment in a certain company represents a vote of confidence that the money used to buy the stock will grow larger than if invested elsewhere. So the business’ ability to grow the size of your capital is very important and can be assessed by comparing the return on capital you can get on your investment with a hurdle rate that depends on the other return possibilities you can identify. A good metric to use is return on capital employed (ROCE), which helps us gauge how much income can be created from the funds needed to operate the business. This metric will tell us if DryShips is good at growing investor capital. DRYS’s ROCE is calculated below:
ROCE Calculation for DRYS
Return on Capital Employed (ROCE) = Earnings Before Tax (EBT) ÷ (Capital Employed)
Capital Employed = (Total Assets – Current Liabilities)
∴ ROCE = US$4.1m ÷ (US$1.1b – US$48m) = 2.1%
As you can see, DRYS earned $2.1 from every $100 you invested over the previous twelve months. This makes DryShips disappointing when compared to a robust 15% ROCE yardstick. So if this rate continues in to the future, investor capital may be able to compound over time, but not to standard that investors should be aiming for.
A deeper look
Although DryShips is in an unfavourable position, you should know that this could change if the company is able to increase earnings on the same capital base or find new efficiencies that require less capital to produce earnings. Therefore, investors need to understand the trend of the inputs in the formula above, so that they can see if there is an opportunity to invest. If you go back three years, you’ll find that DRYS’s ROCE has decreased from 63%. Over the same period, EBT went from US$173m to US$4.1m and the amount of capital employed also fell but by a proportionally lesser volume, which suggests the smaller ROCE is due to a decline in earnings relative to capital requirements.
DRYS’s investors have experienced a downward trend in ROCE and it is currently at a level that makes us question whether the company is capable of providing a suitable return on investment. But don’t forget, return on capital employed is a static metric that should be looked at in conjunction with other fundamental indicators like the management team. DryShips’s fundamentals can be explored with the links I’ve provided below if you are interested, otherwise you can start looking at other high-performing stocks.
- Management:Have insiders been ramping up their shares to take advantage of the market’s sentiment for DryShips’s future outlook? Check out our management and board analysis with insights on CEO compensation and governance factors.
- 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 email@example.com.