Today we'll look at EnerSys (NYSE:ENS) 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, we'll go over how we calculate ROCE. Then we'll compare its ROCE to similar companies. And finally, we'll look at how its current liabilities are impacting its ROCE.
Return On Capital Employed (ROCE): What is it?
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. Overall, it is a valuable metric that has its flaws. 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 EnerSys:
0.10 = US$279m ÷ (US$3.3b - US$566m) (Based on the trailing twelve months to September 2019.)
So, EnerSys has an ROCE of 10%.
Does EnerSys Have A Good ROCE?
One way to assess ROCE is to compare similar companies. It appears that EnerSys's ROCE is fairly close to the Electrical industry average of 11%. Separate from how EnerSys stacks up against its industry, its ROCE in absolute terms is mediocre; relative to the returns on government bonds. Readers may find more attractive investment prospects elsewhere.
EnerSys's current ROCE of 10% is lower than its ROCE in the past, which was 15%, 3 years ago. So investors might consider if it has had issues recently. You can see in the image below how EnerSys'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 misleading for companies in cyclical industries, with returns looking impressive during the boom times, but very weak during the busts. ROCE is, after all, simply a snap shot of a single year. What happens in the future is pretty important for investors, so we have prepared a free report on analyst forecasts for EnerSys.
What Are Current Liabilities, And How Do They Affect EnerSys's ROCE?
Short term (or current) liabilities, are things like supplier invoices, overdrafts, or tax bills 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.
EnerSys has total liabilities of US$566m and total assets of US$3.3b. As a result, its current liabilities are equal to approximately 17% of its total assets. This very reasonable level of current liabilities would not boost the ROCE by much.
The Bottom Line On EnerSys's ROCE
If EnerSys continues to earn an uninspiring ROCE, there may be better places to invest. You might be able to find a better investment than EnerSys. 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 EnerSys better if I see some big insider buys. While we wait, check out this free list of growing companies with considerable, recent, insider buying.
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If you spot an error that warrants correction, please contact the editor at email@example.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. Thank you for reading.