Today we'll evaluate AMETEK, Inc. (NYSE:AME) to determine whether it could have potential as an investment idea. In particular, we'll consider its Return On Capital Employed (ROCE), as that can give us insight into how profitably the company is able to employ capital in its business.
First, we'll go over how we calculate ROCE. Second, we'll look at its ROCE compared to similar companies. Finally, we'll look at how its current liabilities affect its ROCE.
What is Return On Capital Employed (ROCE)?
ROCE measures the 'return' (pre-tax profit) a company generates from capital employed in its 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?
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 AMETEK:
0.14 = US$1.1b ÷ (US$9.1b - US$979m) (Based on the trailing twelve months to June 2019.)
So, AMETEK has an ROCE of 14%.
Does AMETEK Have A Good ROCE?
ROCE is commonly used for comparing the performance of similar businesses. AMETEK's ROCE appears to be substantially greater than the 11% average in the Electrical industry. We would consider this a positive, as it suggests it is using capital more effectively than other similar companies. Regardless of where AMETEK sits next to its industry, its ROCE in absolute terms appears satisfactory, and this company could be worth a closer look.
You can see in the image below how AMETEK's ROCE compares to its industry. Click to see more on past growth.
Remember that this metric is backwards looking - it shows what has happened in the past, and does not accurately predict the future. 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. Since the future is so important for investors, you should check out our free report on analyst forecasts for AMETEK.
AMETEK's Current Liabilities And Their Impact On 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 check the impact of this, we calculate if a company has high current liabilities relative to its total assets.
AMETEK has total assets of US$9.1b and current liabilities of US$979m. Therefore its current liabilities are equivalent to approximately 11% of its total assets. A fairly low level of current liabilities is not influencing the ROCE too much.
The Bottom Line On AMETEK's ROCE
This is good to see, and with a sound ROCE, AMETEK could be worth a closer look. AMETEK looks strong on this analysis, but there are plenty of other companies that could be a good opportunity . Here is a free list of companies growing earnings rapidly.
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If you spot an error that warrants correction, please contact the editor at email@example.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.