Today we'll evaluate Chase Corporation (NYSEMKT:CCF) 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. Then we'll compare its ROCE 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 amount of pre-tax profits a company can generate from the capital employed in its business. In general, businesses with a higher ROCE are usually better quality. Ultimately, it is a useful but imperfect metric. 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 Chase:
0.17 = US$47m ÷ (US$308m - US$22m) (Based on the trailing twelve months to August 2019.)
Therefore, Chase has an ROCE of 17%.
Is Chase's ROCE Good?
ROCE can be useful when making comparisons, such as between similar companies. Chase's ROCE appears to be substantially greater than the 10% average in the Chemicals industry. I think that's good to see, since it implies the company is better than other companies at making the most of its capital. Independently of how Chase compares to its industry, its ROCE in absolute terms appears decent, and the company may be worthy of closer investigation.
We can see that, Chase currently has an ROCE of 17%, less than the 25% it reported 3 years ago. Therefore we wonder if the company is facing new headwinds. The image below shows how Chase's ROCE compares to its industry, and you can click it to see more detail on its past growth.
It is important to remember that ROCE shows past performance, and is not necessarily predictive. 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. You can check if Chase has cyclical profits by looking at this free graph of past earnings, revenue and cash flow.
How Chase'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. The ROCE equation subtracts current liabilities from capital employed, so a company with a lot of current liabilities appears to have less capital employed, and a higher ROCE than otherwise. To counteract this, we check if a company has high current liabilities, relative to its total assets.
Chase has total liabilities of US$22m and total assets of US$308m. Therefore its current liabilities are equivalent to approximately 7.3% of its total assets. With low current liabilities, Chase's decent ROCE looks that much more respectable.
The Bottom Line On Chase's ROCE
If it is able to keep this up, Chase could be attractive. Chase 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.
For those who like to find winning investments this free list of growing companies with recent insider purchasing, could be just the ticket.
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.
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