Today we'll look at Digigram S.A. (EPA:DIG) 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.
First up, we'll look at what ROCE is and how we calculate it. Then we'll compare its ROCE to similar companies. Then we'll determine how its current liabilities are affecting its ROCE.
Understanding 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. 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 Digigram:
0.24 = €394k ÷ (€4.0m - €2.4m) (Based on the trailing twelve months to June 2019.)
Therefore, Digigram has an ROCE of 24%.
View our latest analysis for Digigram
Does Digigram Have A Good ROCE?
ROCE can be useful when making comparisons, such as between similar companies. Digigram's ROCE appears to be substantially greater than the 12% average in the Tech industry. We would consider this a positive, as it suggests it is using capital more effectively than other similar companies. Putting aside its position relative to its industry for now, in absolute terms, Digigram's ROCE is currently very good.
Our data shows that Digigram currently has an ROCE of 24%, compared to its ROCE of 5.4% 3 years ago. This makes us think about whether the company has been reinvesting shrewdly. You can see in the image below how Digigram's ROCE compares to its industry. Click to see more on past growth.
When considering this metric, keep in mind that it is backwards looking, and 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 Digigram? You can see for yourself by looking at this free graph of past earnings, revenue and cash flow.
How Digigram's Current Liabilities Impact 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 check the impact of this, we calculate if a company has high current liabilities relative to its total assets.