Today we'll look at Lindsay Australia Limited (ASX:LAU) and reflect on its potential as an investment. 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.

Firstly, we'll go over how we calculate ROCE. Next, we'll compare it to others in its industry. And finally, we'll look at how its current liabilities are impacting its ROCE.

Understanding Return On Capital Employed (ROCE)

ROCE measures the amount of pre-tax profits a company can generate from the capital employed in its 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 Lindsay Australia:

0.097 = AU$17m ÷ (AU$271m - AU$91m) (Based on the trailing twelve months to June 2019.)

Therefore, Lindsay Australia has an ROCE of 9.7%.

Check out our latest analysis for Lindsay Australia

Is Lindsay Australia's ROCE Good?

One way to assess ROCE is to compare similar companies. We can see Lindsay Australia's ROCE is around the 11% average reported by the Transportation industry. Setting aside the industry comparison for now, Lindsay Australia'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.

In our analysis, Lindsay Australia's ROCE appears to be 9.7%, compared to 3 years ago, when its ROCE was 7.0%. This makes us think the business might be improving. You can see in the image below how Lindsay Australia'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. This is because ROCE only looks at one year, instead of considering returns across a whole cycle. Since the future is so important for investors, you should check out our free report on analyst forecasts for Lindsay Australia.

Lindsay Australia's Current Liabilities And Their Impact On Its ROCE

Short term (or current) liabilities, are things like supplier invoices, overdrafts, or tax bills that need to be paid within 12 months. Due to the way ROCE is calculated, a high level of current liabilities makes a company look as though it has less capital employed, and thus can (sometimes unfairly) boost the ROCE. To counter this, investors can check if a company has high current liabilities relative to total assets.

Lindsay Australia has total liabilities of AU$91m and total assets of AU$271m. As a result, its current liabilities are equal to approximately 34% of its total assets. Lindsay Australia's middling level of current liabilities have the effect of boosting its ROCE a bit.

What We Can Learn From Lindsay Australia's ROCE

With this level of liabilities and a mediocre ROCE, there are potentially better investments out there. Of course, you might also be able to find a better stock than Lindsay Australia. So you may wish to see this free collection of other companies that have grown earnings strongly.

For those who like to find winning investments this free list of growing companies with recent insider purchasing, could be just the ticket.

We aim to bring you long-term focused research analysis driven by fundamental data. Note that our analysis may not factor in the latest price-sensitive company announcements or qualitative material.

If you spot an error that warrants correction, please contact the editor at editorial-team@simplywallst.com. This article by Simply Wall St is general in nature. It does not constitute a recommendation to buy or sell any stock, and does not take account of your objectives, or your financial situation. Simply Wall St has no position in the stocks mentioned. Thank you for reading.