In This Article:
Today we are going to look at Godfrey Phillips India Limited (NSE:GODFRYPHLP) to see whether it might be an attractive investment prospect. 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. Then we’ll determine how its current liabilities are affecting its ROCE.
Return On Capital Employed (ROCE): What is it?
ROCE is a measure of a company’s yearly pre-tax profit (its return), relative to the capital employed in the business. Generally speaking a higher ROCE is better. 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 Godfrey Phillips India:
0.088 = ₹1.7b ÷ (₹25b – ₹5.6b) (Based on the trailing twelve months to March 2018.)
So, Godfrey Phillips India has an ROCE of 8.8%.
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Is Godfrey Phillips India’s ROCE Good?
ROCE can be useful when making comparisons, such as between similar companies. We can see Godfrey Phillips India’s ROCE is meaningfully below the Tobacco industry average of 14%. This performance could be negative if sustained, as it suggests the business may underperform its industry. Regardless of how Godfrey Phillips India stacks up against its industry, its ROCE in absolute terms is quite low (especially compared to a bank account). There are potentially more appealing investments elsewhere.
As we can see, Godfrey Phillips India currently has an ROCE of 8.8%, less than the 19% it reported 3 years ago. This makes us wonder if the business is facing new challenges.
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 only a point-in-time measure. How cyclical is Godfrey Phillips India? You can see for yourself by looking at this free graph of past earnings, revenue and cash flow.