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Today we are going to look at Gilat Satellite Networks Ltd. (NASDAQ:GILT) to see whether it might be an attractive investment prospect. Specifically, we're going to calculate its Return On Capital Employed (ROCE), in the hopes of getting some insight into the business.
First of all, we'll work out how to calculate ROCE. Next, we'll compare it to others in its industry. 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. 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?
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 Gilat Satellite Networks:
0.084 = US$21m ÷ (US$395m - US$140m) (Based on the trailing twelve months to December 2018.)
Therefore, Gilat Satellite Networks has an ROCE of 8.4%.
Does Gilat Satellite Networks Have A Good ROCE?
ROCE can be useful when making comparisons, such as between similar companies. It appears that Gilat Satellite Networks's ROCE is fairly close to the Communications industry average of 8.2%. Separate from how Gilat Satellite Networks 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.
Gilat Satellite Networks reported an ROCE of 8.4% -- better than 3 years ago, when the company didn't make a profit. This makes us wonder if the company is improving.
When considering ROCE, bear in mind that it reflects the past and does not necessarily predict the future. 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. How cyclical is Gilat Satellite Networks? You can see for yourself by looking at this free graph of past earnings, revenue and cash flow.
How Gilat Satellite Networks'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 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 check the impact of this, we calculate if a company has high current liabilities relative to its total assets.
Gilat Satellite Networks has total assets of US$395m and current liabilities of US$140m. Therefore its current liabilities are equivalent to approximately 36% of its total assets. Gilat Satellite Networks's middling level of current liabilities have the effect of boosting its ROCE a bit.
Our Take On Gilat Satellite Networks's ROCE
Despite this, its ROCE is still mediocre, and you may find more appealing investments elsewhere. But note: Gilat Satellite Networks may not be the best stock to buy. So take a peek at this free list of interesting companies with strong recent earnings growth (and a P/E ratio below 20).
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.