In This Article:
Today we'll look at Michael Hill International Limited (ASX:MHJ) 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. Second, we'll look at its ROCE compared to similar companies. 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. Generally speaking a higher ROCE is better. In brief, it is a useful tool, but it is not without drawbacks. 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?
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 Michael Hill International:
0.087 = AU$24m ÷ (AU$379m - AU$105m) (Based on the trailing twelve months to June 2019.)
Therefore, Michael Hill International has an ROCE of 8.7%.
See our latest analysis for Michael Hill International
Is Michael Hill International's ROCE Good?
ROCE is commonly used for comparing the performance of similar businesses. Using our data, Michael Hill International's ROCE appears to be significantly below the 16% average in the Specialty Retail industry. This performance is not ideal, as it suggests the company may not be deploying its capital as effectively as some competitors. Setting aside the industry comparison for now, Michael Hill International'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.
Michael Hill International's current ROCE of 8.7% is lower than its ROCE in the past, which was 17%, 3 years ago. Therefore we wonder if the company is facing new headwinds. The image below shows how Michael Hill International's ROCE compares to its industry, and you can click it to see more detail on its past growth.
Remember that this metric is backwards looking - it shows what has happened in the past, and does not accurately 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. What happens in the future is pretty important for investors, so we have prepared a free report on analyst forecasts for Michael Hill International.