Today we'll look at Artesian Resources Corporation (NASDAQ:ARTN.A) and reflect on its potential as an investment. 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. Next, we'll compare it to others in its industry. Then we'll determine how its current liabilities are affecting its ROCE.
Return On Capital Employed (ROCE): What is it?
ROCE is a measure of a company's yearly pre-tax profit (its return), relative to the capital employed in the business. All else being equal, a better business will have a higher ROCE. 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.
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 Artesian Resources:
0.048 = US$24m ÷ (US$539m - US$44m) (Based on the trailing twelve months to June 2019.)
Therefore, Artesian Resources has an ROCE of 4.8%.
See our latest analysis for Artesian Resources
Does Artesian Resources Have A Good ROCE?
ROCE is commonly used for comparing the performance of similar businesses. It appears that Artesian Resources's ROCE is fairly close to the Water Utilities industry average of 4.5%. Regardless of how Artesian Resources stacks up against its industry, its ROCE in absolute terms is quite low (especially compared to a bank account). There are potentially more appealing investments elsewhere.
You can see in the image below how Artesian Resources's ROCE compares to its industry. Click to see more on past growth.
When considering ROCE, bear in mind that it reflects the past and does not necessarily 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, after all, simply a snap shot of a single year. You can check if Artesian Resources has cyclical profits by looking at this free graph of past earnings, revenue and cash flow.
Do Artesian Resources's Current Liabilities Skew Its ROCE?
Short term (or current) liabilities, are things like supplier invoices, overdrafts, or tax bills 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.