In This Article:
Today we’ll look at Vidrala, S.A. (BME:VID) 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 of all, we’ll work out how to calculate ROCE. 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 measures the amount of pre-tax profits a company can generate from the capital employed 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.’
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 Vidrala:
0.13 = €147m ÷ (€1.4b – €302m) (Based on the trailing twelve months to December 2018.)
Therefore, Vidrala has an ROCE of 13%.
Check out our latest analysis for Vidrala
Want to participate in a research study? Help shape the future of investing tools and earn a $60 gift card!
Is Vidrala’s ROCE Good?
ROCE is commonly used for comparing the performance of similar businesses. Vidrala’s ROCE appears to be substantially greater than the 11% average in the Packaging industry. We consider this a positive sign, because it suggests it uses capital more efficiently than similar companies. Independently of how Vidrala compares to its industry, its ROCE in absolute terms appears decent, and the company may be worthy of closer investigation.
In our analysis, Vidrala’s ROCE appears to be 13%, compared to 3 years ago, when its ROCE was 8.5%. This makes us wonder if the company is improving.
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. ROCE is, after all, simply a snap shot of a single year. What happens in the future is pretty important for investors, so we have prepared a free report on analyst forecasts for Vidrala.
How Vidrala’s Current Liabilities Impact Its ROCE
Current liabilities include invoices, such as supplier payments, short-term debt, or a tax bill, 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 counter this, investors can check if a company has high current liabilities relative to total assets.