Don’t Buy Petropavlovsk PLC (LON:POG) Until You Understand Its ROCE
Today we are going to look at Petropavlovsk PLC (LON:POG) 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 up, we'll look at what ROCE is and how we calculate it. Second, we'll look at its ROCE compared to similar companies. Then we'll determine how its current liabilities are affecting its ROCE.
Return On Capital Employed (ROCE): What is it?
ROCE is a metric for evaluating how much pre-tax income (in percentage terms) a company earns on the capital invested 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.
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 Petropavlovsk:
0.10 = US$130m ÷ (US$1.6b - US$348m) (Based on the trailing twelve months to June 2019.)
Therefore, Petropavlovsk has an ROCE of 10%.
See our latest analysis for Petropavlovsk
Does Petropavlovsk Have A Good ROCE?
When making comparisons between similar businesses, investors may find ROCE useful. Using our data, Petropavlovsk's ROCE appears to be around the 13% average of the Metals and Mining industry. Regardless of where Petropavlovsk sits next to its industry, its ROCE in absolute terms appears satisfactory, and this company could be worth a closer look.
Our data shows that Petropavlovsk currently has an ROCE of 10%, compared to its ROCE of 1.2% 3 years ago. This makes us think the business might be improving. You can click on the image below to see (in greater detail) how Petropavlovsk's past growth compares to other companies.
When considering ROCE, bear in mind that it reflects the past and does not necessarily predict the future. Companies in cyclical industries can be difficult to understand using ROCE, as returns typically look high during boom times, and low during busts. ROCE is, after all, simply a snap shot of a single year. Remember that most companies like Petropavlovsk are cyclical businesses. What happens in the future is pretty important for investors, so we have prepared a free report on analyst forecasts for Petropavlovsk.
Do Petropavlovsk's Current Liabilities Skew 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 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 counteract this, we check if a company has high current liabilities, relative to its total assets.
Petropavlovsk has total liabilities of US$348m and total assets of US$1.6b. Therefore its current liabilities are equivalent to approximately 21% of its total assets. Low current liabilities are not boosting the ROCE too much.
Our Take On Petropavlovsk's ROCE
Overall, Petropavlovsk has a decent ROCE and could be worthy of further research. There might be better investments than Petropavlovsk out there, but you will have to work hard to find them . These promising businesses with rapidly growing earnings might be right up your alley.
If you like to buy stocks alongside management, then you might just love this free list of companies. (Hint: insiders have been buying them).
If you spot an error that warrants correction, please contact the editor at editorial-team@simplywallst.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.
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. Thank you for reading.
