Today we'll look at Diana Shipping Inc. (NYSE:DSX) 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 up, we'll look at what ROCE is and how we calculate it. 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.
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. Generally speaking a higher ROCE is better. 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?
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 Diana Shipping:
0.054 = US$54m ÷ (US$1.1b - US$125m) (Based on the trailing twelve months to June 2019.)
So, Diana Shipping has an ROCE of 5.4%.
Is Diana Shipping's ROCE Good?
ROCE can be useful when making comparisons, such as between similar companies. We can see Diana Shipping's ROCE is around the 5.2% average reported by the Shipping industry. Independently of how Diana Shipping compares to its industry, its ROCE in absolute terms is low; especially compared to the ~2.7% available in government bonds. There are potentially more appealing investments elsewhere.
Diana Shipping has an ROCE of 5.4%, but it didn't have an ROCE 3 years ago, since it was unprofitable. That implies the business has been improving. You can see in the image below how Diana Shipping's ROCE compares to its industry. Click to see more on past growth.
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 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. Since the future is so important for investors, you should check out our free report on analyst forecasts for Diana Shipping.
How Diana Shipping's Current Liabilities Impact Its ROCE
Current liabilities include invoices, such as supplier payments, short-term debt, or a tax bill, 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 counter this, investors can check if a company has high current liabilities relative to total assets.
Diana Shipping has total liabilities of US$125m and total assets of US$1.1b. Therefore its current liabilities are equivalent to approximately 11% of its total assets. This is not a high level of current liabilities, which would not boost the ROCE by much.
Our Take On Diana Shipping's ROCE
That's not a bad thing, however Diana Shipping has a weak ROCE and may not be an attractive investment. Of course, you might also be able to find a better stock than Diana Shipping. So you may wish to see this free collection of other companies that have grown earnings strongly.
If you are like me, then you will not want to miss this free list of growing companies that insiders are buying.
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 firstname.lastname@example.org. 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.