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Today we'll look at Seroja Investments Limited (SGX:IW5) 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 up, we'll look at what ROCE is and how we calculate it. Second, we'll look at its ROCE compared to similar companies. Finally, we'll look at how its current liabilities affect 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. Renowned investment researcher Michael Mauboussin has suggested that a high ROCE can indicate that 'one dollar invested in the company generates value of more than one dollar'.
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 Seroja Investments:
0.056 = US$3.6m ÷ (US$72m - US$6.8m) (Based on the trailing twelve months to March 2019.)
Therefore, Seroja Investments has an ROCE of 5.6%.
View our latest analysis for Seroja Investments
Does Seroja Investments Have A Good ROCE?
ROCE can be useful when making comparisons, such as between similar companies. Using our data, Seroja Investments's ROCE appears to be around the 5.6% average of the Shipping industry. Aside from the industry comparison, Seroja Investments'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.
As we can see, Seroja Investments currently has an ROCE of 5.6%, less than the 10% it reported 3 years ago. Therefore we wonder if the company is facing new headwinds.
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 only a point-in-time measure. If Seroja Investments is cyclical, it could make sense to check out this free graph of past earnings, revenue and cash flow.