Today we’ll look at Conifex Timber Inc. (TSE:CFF) and reflect on its potential as an investment. 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, we’ll go over how we calculate ROCE. Second, we’ll look at its ROCE compared to similar companies. And finally, we’ll look at how its current liabilities are impacting its ROCE.
Understanding Return On Capital Employed (ROCE)
ROCE measures the ‘return’ (pre-tax profit) a company generates from capital employed in its business. In general, businesses with a higher ROCE are usually better quality. 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.’
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 Conifex Timber:
0.07 = CA$48m ÷ (CA$748m – CA$68m) (Based on the trailing twelve months to September 2018.)
So, Conifex Timber has an ROCE of 7.0%.
Does Conifex Timber Have A Good ROCE?
One way to assess ROCE is to compare similar companies. Using our data, Conifex Timber’s ROCE appears to be significantly below the 15% average in the Forestry industry. This performance is not ideal, as it suggests the company may not be deploying its capital as effectively as some competitors. Separate from how Conifex Timber stacks up against its industry, its ROCE in absolute terms is mediocre; relative to the returns on government bonds. It is possible that there are more rewarding investments out there.
Conifex Timber has an ROCE of 7.0%, but it didn’t have an ROCE 3 years ago, since it was unprofitable. This makes us wonder if the company is improving.
It is important to remember that ROCE shows past performance, and is not necessarily predictive. ROCE can be deceptive for cyclical businesses, as returns can look incredible in boom times, and terribly low in downturns. This is because ROCE only looks at one year, instead of considering returns across a whole cycle. What happens in the future is pretty important for investors, so we have prepared a free report on analyst forecasts for Conifex Timber.
Do Conifex Timber’s Current Liabilities Skew Its ROCE?
Current liabilities are short term bills and invoices that need to be paid in 12 months or less. 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 counter this, investors can check if a company has high current liabilities relative to total assets.
Conifex Timber has total assets of CA$748m and current liabilities of CA$68m. As a result, its current liabilities are equal to approximately 9.1% of its total assets. Conifex Timber reports few current liabilities, which have a negligible impact on its unremarkable ROCE.
Our Take On Conifex Timber’s ROCE
Conifex Timber looks like an ok business, but on this analysis it is not at the top of our buy list. You might be able to find a better buy than Conifex Timber. If you want a selection of possible winners, check out this free list of interesting companies that trade on a P/E below 20 (but have proven they can grow earnings).
If you like to buy stocks alongside management, then you might just love this free list of companies. (Hint: insiders have been buying them).
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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.