Today we are going to look at Inter-Rock Minerals Inc. (CVE:IRO) to see whether it might be an attractive investment prospect. 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 of all, we'll work out how to calculate ROCE. Then we'll compare its ROCE to similar companies. Finally, we'll look at how its current liabilities affect its ROCE.
Understanding Return On Capital Employed (ROCE)
ROCE is a measure of a company's yearly pre-tax profit (its return), relative to the capital employed in the business. In general, businesses with a higher ROCE are usually better quality. Ultimately, it is a useful but imperfect metric. 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?
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 Inter-Rock Minerals:
0.12 = US$1.5m ÷ (US$18m - US$5.6m) (Based on the trailing twelve months to March 2019.)
Therefore, Inter-Rock Minerals has an ROCE of 12%.
Does Inter-Rock Minerals Have A Good ROCE?
When making comparisons between similar businesses, investors may find ROCE useful. Using our data, we find that Inter-Rock Minerals's ROCE is meaningfully better than the 8.6% average in the Food industry. We consider this a positive sign, because it suggests it uses capital more efficiently than similar companies. Separate from Inter-Rock Minerals's performance relative to its industry, its ROCE in absolute terms looks satisfactory, and it may be worth researching in more depth.
Our data shows that Inter-Rock Minerals currently has an ROCE of 12%, compared to its ROCE of 0.2% 3 years ago. This makes us think about whether the company has been reinvesting shrewdly. The image below shows how Inter-Rock Minerals's ROCE compares to its industry, and you can click it to see more detail on its past growth.
When considering this metric, keep in mind that it is backwards looking, and 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. If Inter-Rock Minerals is cyclical, it could make sense to check out this free graph of past earnings, revenue and cash flow.
How Inter-Rock Minerals'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 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 counteract this, we check if a company has high current liabilities, relative to its total assets.
Inter-Rock Minerals has total assets of US$18m and current liabilities of US$5.6m. Therefore its current liabilities are equivalent to approximately 32% of its total assets. With this level of current liabilities, Inter-Rock Minerals's ROCE is boosted somewhat.
The Bottom Line On Inter-Rock Minerals's ROCE
While its ROCE looks good, it's worth remembering that the current liabilities are making the business look better. Inter-Rock Minerals 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 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.