Today we'll evaluate Blue Financial Communication S.p.A. (BIT:BLUE) to determine whether it could have potential as an investment idea. 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, we'll go over how we calculate ROCE. Next, we'll compare it to others in its industry. Last but not least, we'll look at what impact its current liabilities have on 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. 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?
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 Blue Financial Communication:
0.061 = €201k ÷ (€4.7m - €1.4m) (Based on the trailing twelve months to June 2019.)
Therefore, Blue Financial Communication has an ROCE of 6.1%.
Is Blue Financial Communication's ROCE Good?
ROCE is commonly used for comparing the performance of similar businesses. We can see Blue Financial Communication's ROCE is meaningfully below the Media industry average of 9.4%. This could be seen as a negative, as it suggests some competitors may be employing their capital more efficiently. Separate from how Blue Financial Communication stacks up against its industry, its ROCE in absolute terms is mediocre; relative to the returns on government bonds. Readers may find more attractive investment prospects elsewhere.
In our analysis, Blue Financial Communication's ROCE appears to be 6.1%, compared to 3 years ago, when its ROCE was 2.1%. This makes us wonder if the company is improving. You can click on the image below to see (in greater detail) how Blue Financial Communication's past growth compares to other companies.
When considering ROCE, bear in mind that it reflects the past and does not necessarily 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. This is because ROCE only looks at one year, instead of considering returns across a whole cycle. How cyclical is Blue Financial Communication? You can see for yourself by looking at this free graph of past earnings, revenue and cash flow.
How Blue Financial Communication'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 ROCE is calculated, a high level of current liabilities makes a company look as though it has less capital employed, and thus can (sometimes unfairly) boost the ROCE. To counter this, investors can check if a company has high current liabilities relative to total assets.
Blue Financial Communication has total assets of €4.7m and current liabilities of €1.4m. As a result, its current liabilities are equal to approximately 30% of its total assets. It is good to see a restrained amount of current liabilities, as this limits the effect on ROCE.
The Bottom Line On Blue Financial Communication's ROCE
That said, Blue Financial Communication's ROCE is mediocre, there may be more attractive investments around. Of course, you might also be able to find a better stock than Blue Financial Communication. So you may wish to see this free collection of other companies that have grown earnings strongly.
If you are like me, then you will not want to miss this free list of growing companies that insiders are buying.
If you spot an error that warrants correction, please contact the editor at firstname.lastname@example.org. 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.
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. Thank you for reading.