In This Article:
Today we are going to look at Aeorema Communications plc (LON:AEO) 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.
Firstly, we'll go over how we 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 measures the amount of pre-tax profits a company can generate from the capital employed in its business. In general, businesses with a higher ROCE are usually better quality. Overall, it is a valuable metric that has its flaws. 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?
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 Aeorema Communications:
0.049 = UK£74k ÷ (UK£2.3m - UK£792k) (Based on the trailing twelve months to December 2018.)
Therefore, Aeorema Communications has an ROCE of 4.9%.
See our latest analysis for Aeorema Communications
Does Aeorema Communications Have A Good ROCE?
One way to assess ROCE is to compare similar companies. It appears that Aeorema Communications's ROCE is fairly close to the Entertainment industry average of 6.1%. Setting aside the industry comparison for now, Aeorema Communications'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.
Aeorema Communications's current ROCE of 4.9% is lower than its ROCE in the past, which was 22%, 3 years ago. So investors might consider if it has had issues recently. You can see in the image below how Aeorema Communications's ROCE compares to its industry. Click to see more on past growth.
It is important to remember that ROCE shows past performance, and is not necessarily predictive. 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. How cyclical is Aeorema Communications? You can see for yourself by looking at this free graph of past earnings, revenue and cash flow.
What Are Current Liabilities, And How Do They Affect Aeorema Communications'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 counter this, investors can check if a company has high current liabilities relative to total assets.