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Today we are going to look at Wärtsilä Oyj Abp (HEL:WRT1V) 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 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.
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. 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.’
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 Wärtsilä Oyj Abp:
0.14 = €503m ÷ (€6.1b – €2.5b) (Based on the trailing twelve months to December 2018.)
Therefore, Wärtsilä Oyj Abp has an ROCE of 14%.
Does Wärtsilä Oyj Abp Have A Good ROCE?
One way to assess ROCE is to compare similar companies. It appears that Wärtsilä Oyj Abp’s ROCE is fairly close to the Machinery industry average of 14%. Independently of how Wärtsilä Oyj Abp compares to its industry, its ROCE in absolute terms appears decent, and the company may be worthy of closer investigation.
When considering this metric, keep in mind that it is backwards looking, and 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. ROCE is only a point-in-time measure. Future performance is what matters, and you can see analyst predictions in our free report on analyst forecasts for the company.
Wärtsilä Oyj Abp’s Current Liabilities And Their Impact On 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. 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.
Wärtsilä Oyj Abp has total liabilities of €2.5b and total assets of €6.1b. As a result, its current liabilities are equal to approximately 42% of its total assets. Wärtsilä Oyj Abp has a medium level of current liabilities, which would boost the ROCE.
The Bottom Line On Wärtsilä Oyj Abp’s ROCE
Wärtsilä Oyj Abp’s ROCE does look good, but the level of current liabilities also contribute to that. You might be able to find a better buy than Wärtsilä Oyj Abp. 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).
I will like Wärtsilä Oyj Abp 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 email@example.com.