Today we’ll evaluate BlueLinx Holdings Inc. (NYSE:BXC) to determine whether it could have potential as an investment idea. Specifically, we’re going to calculate its Return On Capital Employed (ROCE), in the hopes of getting some insight into the business.
First of all, we’ll work out how to calculate ROCE. Next, we’ll compare it to others in its industry. Finally, we’ll look at how its current liabilities affect its ROCE.
Understanding Return On Capital Employed (ROCE)
ROCE measures the amount of pre-tax profits a company can generate from the capital employed in its business. Generally speaking a higher ROCE is better. Overall, it is a valuable metric that has its flaws. 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?
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 BlueLinx Holdings:
0.034 = US$23m ÷ (US$1.1b – US$234m) (Based on the trailing twelve months to September 2018.)
Therefore, BlueLinx Holdings has an ROCE of 3.4%.
Is BlueLinx Holdings’s ROCE Good?
ROCE can be useful when making comparisons, such as between similar companies. We can see BlueLinx Holdings’s ROCE is meaningfully below the Trade Distributors industry average of 7.9%. This performance is not ideal, as it suggests the company may not be deploying its capital as effectively as some competitors. Putting aside BlueLinx Holdings’s performance relative to its industry, its ROCE in absolute terms is poor – considering the risk of owning stocks compared to government bonds. There are potentially more appealing investments elsewhere.
As we can see, BlueLinx Holdings currently has an ROCE of 3.4%, less than the 4.9% it reported 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 misleading for companies in cyclical industries, with returns looking impressive during the boom times, but very weak during the busts. This is because ROCE only looks at one year, instead of considering returns across a whole cycle. You can check if BlueLinx Holdings has cyclical profits by looking at this free graph of past earnings, revenue and cash flow.
BlueLinx Holdings’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. 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.
BlueLinx Holdings has total assets of US$1.1b and current liabilities of US$234m. As a result, its current liabilities are equal to approximately 21% of its total assets. With a very reasonable level of current liabilities, so the impact on ROCE is fairly minimal.
What We Can Learn From BlueLinx Holdings’s ROCE
BlueLinx Holdings has a poor ROCE, and there may be better investment prospects out there. But note: BlueLinx Holdings may not be the best stock to buy. So take a peek at this free list of interesting companies with strong recent earnings growth (and a P/E ratio below 20).
For those who like to find winning investments this free list of growing companies with recent insider purchasing, could be just the ticket.
To help readers see past the short term volatility of the financial market, we aim to bring you a long-term focused research analysis purely driven by fundamental data. Note that our analysis does not factor in the latest price-sensitive company announcements.
The author is an independent contributor and at the time of publication had no position in the stocks mentioned. For errors that warrant correction please contact the editor at email@example.com.