Today we'll look at Damodar Industries Limited (NSE:DAMOINDUS) and reflect on its potential as an investment. Specifically, we'll consider its Return On Capital Employed (ROCE), since that will give us an insight into how efficiently the business can generate profits from the capital it requires.
First, we'll go over how we 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.
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?
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 Damodar Industries:
0.061 = ₹198m ÷ (₹4.9b - ₹1.7b) (Based on the trailing twelve months to June 2019.)
So, Damodar Industries has an ROCE of 6.1%.
Check out our latest analysis for Damodar Industries
Does Damodar Industries Have A Good ROCE?
ROCE can be useful when making comparisons, such as between similar companies. We can see Damodar Industries's ROCE is meaningfully below the Luxury industry average of 12%. This performance could be negative if sustained, as it suggests the business may underperform its industry. Regardless of how Damodar Industries 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.
Damodar Industries's current ROCE of 6.1% is lower than 3 years ago, when the company reported a 24% ROCE. So investors might consider if it has had issues recently. You can click on the image below to see (in greater detail) how Damodar Industries's past growth compares to other companies.
When considering ROCE, bear in mind that it reflects the past and does not necessarily predict the future. 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. You can check if Damodar Industries has cyclical profits by looking at this free graph of past earnings, revenue and cash flow.