Today we'll look at Ducommun Incorporated (NYSE:DCO) 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. Next, we'll compare it to others in its industry. Finally, we'll look at how its current liabilities affect its ROCE.
Understanding Return On Capital Employed (ROCE)
ROCE is a metric for evaluating how much pre-tax income (in percentage terms) a company earns on the capital invested 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 Ducommun:
0.085 = US$60m ÷ (US$842m - US$143m) (Based on the trailing twelve months to March 2020.)
So, Ducommun has an ROCE of 8.5%.
Is Ducommun's ROCE Good?
When making comparisons between similar businesses, investors may find ROCE useful. Using our data, Ducommun's ROCE appears to be around the 9.7% average of the Aerospace & Defense industry. Aside from the industry comparison, Ducommun's ROCE is mediocre in absolute terms, considering the risk of investing in stocks versus the safety of a bank account. Investors may wish to consider higher-performing investments.
The image below shows how Ducommun's ROCE compares to its industry, and you can click it to see more detail on its past growth.
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. ROCE is, after all, simply a snap shot of a single year. Since the future is so important for investors, you should check out our free report on analyst forecasts for Ducommun.
Do Ducommun'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. 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 counteract this, we check if a company has high current liabilities, relative to its total assets.
Ducommun has current liabilities of US$143m and total assets of US$842m. Therefore its current liabilities are equivalent to approximately 17% of its total assets. This very reasonable level of current liabilities would not boost the ROCE by much.
What We Can Learn From Ducommun's ROCE
With that in mind, we're not overly impressed with Ducommun's ROCE, so it may not be the most appealing prospect. Of course, you might find a fantastic investment by looking at a few good candidates. So take a peek at this free list of companies with modest (or no) debt, trading on a P/E below 20.
There are plenty of other companies that have insiders buying up shares. You probably do not want to miss this free list of growing companies that insiders are buying.
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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. We aim to bring you long-term focused analysis driven by fundamental data. Note that our analysis may not factor in the latest price-sensitive company announcements or qualitative material. Simply Wall St has no position in any stocks mentioned. Thank you for reading.