In This Article:
Today we'll evaluate T&G Global Limited (NZSE:TGG) to determine whether it could have potential as an investment idea. 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. Next, we'll compare it to others in its industry. Then we'll determine how its current liabilities are affecting its ROCE.
Understanding Return On Capital Employed (ROCE)
ROCE is a measure of a company's yearly pre-tax profit (its return), relative to the capital employed in the 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 T&G Global:
0.034 = NZ$22m ÷ (NZ$854m - NZ$199m) (Based on the trailing twelve months to December 2019.)
Therefore, T&G Global has an ROCE of 3.4%.
View our latest analysis for T&G Global
Does T&G Global Have A Good ROCE?
ROCE can be useful when making comparisons, such as between similar companies. We can see T&G Global's ROCE is meaningfully below the Food industry average of 8.2%. This performance is not ideal, as it suggests the company may not be deploying its capital as effectively as some competitors. Independently of how T&G Global compares to its industry, its ROCE in absolute terms is low; especially compared to the ~1.3% available in government bonds. It is likely that there are more attractive prospects out there.
You can see in the image below how T&G Global's ROCE compares to its industry. Click to see more on past growth.
It is important to remember that ROCE shows past performance, and is not necessarily predictive. Companies in cyclical industries can be difficult to understand using ROCE, as returns typically look high during boom times, and low during busts. This is because ROCE only looks at one year, instead of considering returns across a whole cycle. How cyclical is T&G Global? You can see for yourself by looking at this free graph of past earnings, revenue and cash flow.
Do T&G Global's Current Liabilities Skew 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 the ROCE equation works, having large bills due in the near term can make it look as though a company has less capital employed, and thus a higher ROCE than usual. To counteract this, we check if a company has high current liabilities, relative to its total assets.