Why Echo Global Logistics, Inc.’s (NASDAQ:ECHO) Return On Capital Employed Might Be A Concern

Today we’ll evaluate Echo Global Logistics, Inc. (NASDAQ:ECHO) 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 of all, we’ll work out how to calculate ROCE. Second, we’ll look at its ROCE compared to similar companies. Then we’ll determine how its current liabilities are affecting its ROCE.

What is Return On Capital Employed (ROCE)?

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. In brief, ROCE is a useful tool, but it is not without drawbacks. 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 Echo Global Logistics:

0.079 = US$20m ÷ (US$947m – US$305m) (Based on the trailing twelve months to September 2018.)

So, Echo Global Logistics has an ROCE of 7.9%.

View our latest analysis for Echo Global Logistics

Does Echo Global Logistics Have A Good ROCE?

When making comparisons between similar businesses, investors may find ROCE useful. Using our data, Echo Global Logistics’s ROCE appears to be around the 9.3% average of the Logistics industry. Aside from the industry comparison, Echo Global Logistics’s ROCE is mediocre in absolute terms, considering the risk of investing in stocks versus the safety of a bank account. It is possible that there are more rewarding investments out there.

In our analysis, Echo Global Logistics’s ROCE appears to be 7.9%, compared to 3 years ago, when its ROCE was 4.1%. This makes us think the business might be improving.

NasdaqGS:ECHO Last Perf December 15th 18
NasdaqGS:ECHO Last Perf December 15th 18

It is important to remember that ROCE shows past performance, and is not necessarily predictive. ROCE can be deceptive for cyclical businesses, as returns can look incredible in boom times, and terribly low in downturns. This is because ROCE only looks at one year, instead of considering returns across a whole cycle. What happens in the future is pretty important for investors, so we have prepared a free report on analyst forecasts for Echo Global Logistics.

Do Echo Global Logistics’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 counter this, investors can check if a company has high current liabilities relative to total assets.

Echo Global Logistics has total assets of US$947m and current liabilities of US$305m. Therefore its current liabilities are equivalent to approximately 32% of its total assets. Echo Global Logistics’s ROCE is improved somewhat by its moderate amount of current liabilities.

What We Can Learn From Echo Global Logistics’s ROCE

With this level of liabilities and a mediocre ROCE, there are potentially better investments out there. While the ROCE is useful information, it is not always predictive. We need to do more work before making a decision. For example you might check if insiders are buying shares.

But note: Echo Global Logistics may not be the best stock to buy. So take a peek at this free list of interesting companies with high ROE and low debt.

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.