In This Article:
Today we'll evaluate Archidply Industries Limited (NSE:ARCHIDPLY) to determine whether it could have potential as an investment idea. To be precise, we'll consider its Return On Capital Employed (ROCE), as that will inform our view of the quality of the business.
Firstly, we'll go over how we calculate ROCE. Then we'll compare its ROCE to similar companies. Finally, we'll look at how its current liabilities affect its ROCE.
Return On Capital Employed (ROCE): What is it?
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. 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'.
So, How Do We Calculate ROCE?
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 Archidply Industries:
0.063 = ₹91m ÷ (₹2.9b - ₹1.5b) (Based on the trailing twelve months to December 2018.)
Therefore, Archidply Industries has an ROCE of 6.3%.
See our latest analysis for Archidply Industries
Is Archidply Industries's ROCE Good?
One way to assess ROCE is to compare similar companies. In this analysis, Archidply Industries's ROCE appears meaningfully below the 16% average reported by the Forestry industry. This could be seen as a negative, as it suggests some competitors may be employing their capital more efficiently. Independently of how Archidply Industries compares to its industry, its ROCE in absolute terms is low; especially compared to the ~7.6% available in government bonds. There are potentially more appealing investments elsewhere.
Archidply Industries's current ROCE of 6.3% is lower than its ROCE in the past, which was 13%, 3 years ago. This makes us wonder if the business is facing new challenges.
When considering ROCE, bear in mind that it reflects the past and does not necessarily predict the future. ROCE can be deceptive for cyclical businesses, as returns can look incredible in boom times, and terribly low in downturns. ROCE is, after all, simply a snap shot of a single year. If Archidply Industries is cyclical, it could make sense to check out this free graph of past earnings, revenue and cash flow.
Archidply Industries'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. The ROCE equation subtracts current liabilities from capital employed, so a company with a lot of current liabilities appears to have less capital employed, and a higher ROCE than otherwise. To counter this, investors can check if a company has high current liabilities relative to total assets.