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Is American Shared Hospital Services (NYSEMKT:AMS) Investing Your Capital Efficiently?

Simply Wall St

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Today we are going to look at American Shared Hospital Services (NYSEMKT:AMS) 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 of all, we'll work out how to 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. In brief, it is a useful tool, but it is not without drawbacks. Author Edwin Whiting says to be careful when comparing the ROCE of different businesses, since 'No two businesses are exactly alike.'

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 American Shared Hospital Services:

0.073 = US$3.5m ÷ (US$58m - US$9.5m) (Based on the trailing twelve months to December 2018.)

Therefore, American Shared Hospital Services has an ROCE of 7.3%.

View our latest analysis for American Shared Hospital Services

Is American Shared Hospital Services's ROCE Good?

ROCE is commonly used for comparing the performance of similar businesses. In this analysis, American Shared Hospital Services's ROCE appears meaningfully below the 13% average reported by the Healthcare industry. This performance is not ideal, as it suggests the company may not be deploying its capital as effectively as some competitors. Setting aside the industry comparison for now, American Shared Hospital Services's ROCE is mediocre in absolute terms, considering the risk of investing in stocks versus the safety of a bank account. It is possible that there are more rewarding investments out there.

AMEX:AMS Past Revenue and Net Income, May 6th 2019

When considering this metric, keep in mind that it is backwards looking, and not necessarily predictive. ROCE can be deceptive for cyclical businesses, as returns can look incredible in boom times, and terribly low in downturns. This is because ROCE only looks at one year, instead of considering returns across a whole cycle. How cyclical is American Shared Hospital Services? You can see for yourself by looking at this free graph of past earnings, revenue and cash flow.

How American Shared Hospital Services's Current Liabilities Impact Its ROCE

Current liabilities are short term bills and invoices that need to be paid in 12 months or less. 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 check the impact of this, we calculate if a company has high current liabilities relative to its total assets.

American Shared Hospital Services has total assets of US$58m and current liabilities of US$9.5m. Therefore its current liabilities are equivalent to approximately 16% of its total assets. This very reasonable level of current liabilities would not boost the ROCE by much.

Our Take On American Shared Hospital Services's ROCE

With that in mind, we're not overly impressed with American Shared Hospital Services's ROCE, so it may not be the most appealing prospect. Of course, you might find a fantastic investment by looking at a few good candidates. So take a peek at this free list of companies with modest (or no) debt, trading on a P/E below 20.

I will like American Shared Hospital Services better if I see some big insider buys. While we wait, check out this free list of growing companies with considerable, recent, insider buying.

We aim to bring you long-term focused research analysis driven by fundamental data. Note that our analysis may not factor in the latest price-sensitive company announcements or qualitative material.

If you spot an error that warrants correction, please contact the editor at editorial-team@simplywallst.com. This article by Simply Wall St is general in nature. It does not constitute a recommendation to buy or sell any stock, and does not take account of your objectives, or your financial situation. Simply Wall St has no position in the stocks mentioned. Thank you for reading.