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Are BMC Stock Holdings, Inc.’s (NASDAQ:BMCH) High Returns Really That Great?

Simply Wall St

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Today we'll evaluate BMC Stock Holdings, Inc. (NASDAQ:BMCH) to determine whether it could have potential as an investment idea. To be precise, we'll consider its Return On Capital Employed (ROCE), as that will inform our view of the quality of the business.

First up, we'll look at what ROCE is and how we calculate it. 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.

Understanding 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. In brief, it is a useful tool, but it is not without drawbacks. 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 BMC Stock Holdings:

0.13 = US$181m ÷ (US$1.7b - US$367m) (Based on the trailing twelve months to March 2019.)

Therefore, BMC Stock Holdings has an ROCE of 13%.

Check out our latest analysis for BMC Stock Holdings

Does BMC Stock Holdings Have A Good ROCE?

When making comparisons between similar businesses, investors may find ROCE useful. BMC Stock Holdings's ROCE appears to be substantially greater than the 8.3% average in the Trade Distributors industry. We would consider this a positive, as it suggests it is using capital more effectively than other similar companies. Regardless of where BMC Stock Holdings sits next to its industry, its ROCE in absolute terms appears satisfactory, and this company could be worth a closer look.

In our analysis, BMC Stock Holdings's ROCE appears to be 13%, compared to 3 years ago, when its ROCE was 5.8%. This makes us think the business might be improving.

NasdaqGS:BMCH Past Revenue and Net Income, June 10th 2019

Remember that this metric is backwards looking - it shows what has happened in the past, and does not accurately 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. ROCE is only a point-in-time measure. Future performance is what matters, and you can see analyst predictions in our free report on analyst forecasts for the company.

How BMC Stock Holdings's Current Liabilities Impact 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 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 check the impact of this, we calculate if a company has high current liabilities relative to its total assets.

BMC Stock Holdings has total assets of US$1.7b and current liabilities of US$367m. Therefore its current liabilities are equivalent to approximately 21% of its total assets. Low current liabilities are not boosting the ROCE too much.

What We Can Learn From BMC Stock Holdings's ROCE

With that in mind, BMC Stock Holdings's ROCE appears pretty good. BMC Stock Holdings shapes up well under this analysis, but it is far from the only business delivering excellent numbers . You might also want to check this free collection of companies delivering excellent earnings growth.

If you like to buy stocks alongside management, then you might just love this free list of companies. (Hint: insiders have been buying them).

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.