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Is Cogeco Inc. (TSE:CGO) Investing Effectively In Its Business?

Devin Koller

Today we’ll look at Cogeco Inc. (TSE:CGO) and reflect on its potential as an investment. 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, we’ll go over how we calculate ROCE. Then we’ll compare its ROCE to similar companies. 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 amount of pre-tax profits a company can generate from the capital employed in its business. All else being equal, a better business will have a higher ROCE. In brief, it is a useful tool, but it is not without drawbacks. Author Edwin Whiting says to be careful when comparing the ROCE of different businesses, since ‘No two businesses are exactly alike.’

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 Cogeco:

0.083 = CA$581m ÷ (CA$7.5b – CA$374m) (Based on the trailing twelve months to November 2018.)

Therefore, Cogeco has an ROCE of 8.3%.

See our latest analysis for Cogeco

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Does Cogeco Have A Good ROCE?

ROCE is commonly used for comparing the performance of similar businesses. Using our data, Cogeco’s ROCE appears to be around the 8.2% average of the Media industry. Setting aside the industry comparison for now, Cogeco’s ROCE is mediocre in absolute terms, considering the risk of investing in stocks versus the safety of a bank account. Readers may find more attractive investment prospects elsewhere.

TSX:CGO Last Perf January 31st 19

It is important to remember that ROCE shows past performance, and is not necessarily predictive. 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. Since the future is so important for investors, you should check out our free report on analyst forecasts for Cogeco.

What Are Current Liabilities, And How Do They Affect Cogeco’s ROCE?

Current liabilities are short term bills and invoices that need to be paid in 12 months or less. 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 counter this, investors can check if a company has high current liabilities relative to total assets.

Cogeco has total liabilities of CA$374m and total assets of CA$7.5b. As a result, its current liabilities are equal to approximately 5.0% of its total assets. Cogeco has a low level of current liabilities, which have a minimal impact on its uninspiring ROCE.

Our Take On Cogeco’s ROCE

If performance improves, then Cogeco may be an OK investment, especially at the right valuation. Of course, you might find a fantastic investment by looking at a few good candidates. So take a peek at this free list of companies with modest (or no) debt, trading on a P/E below 20.

I will like Cogeco better if I see some big insider buys. While we wait, check out this free list of growing companies with considerable, recent, insider buying.

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 editorial-team@simplywallst.com.