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Today we are going to look at Evonik Industries AG (FRA:EVK) 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.
Firstly, we'll go over how we calculate ROCE. Next, we'll compare it to others in its industry. Finally, we'll look at how its current liabilities affect its ROCE.
What is Return On Capital Employed (ROCE)?
ROCE is a measure of a company's yearly pre-tax profit (its return), relative to the capital employed in the business. Generally speaking a higher ROCE is better. 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?
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 Evonik Industries:
0.093 = €1.6b ÷ (€22b - €4.3b) (Based on the trailing twelve months to March 2019.)
Therefore, Evonik Industries has an ROCE of 9.3%.
Is Evonik Industries's ROCE Good?
ROCE is commonly used for comparing the performance of similar businesses. Using our data, Evonik Industries's ROCE appears to be around the 8.2% average of the Chemicals industry. Separate from Evonik Industries's performance relative to its industry, its ROCE in absolute terms looks satisfactory, and it may be worth researching in more depth.
The image below shows how Evonik Industries's ROCE compares to its industry, and you can click it to see more detail on its 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 deceptive for cyclical businesses, as returns can look incredible in boom times, and terribly low in downturns. 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.
Do Evonik Industries's Current Liabilities Skew Its ROCE?
Current liabilities are short term bills and invoices that need to be paid in 12 months or less. 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 check the impact of this, we calculate if a company has high current liabilities relative to its total assets.
Evonik Industries has total assets of €22b and current liabilities of €4.3b. Therefore its current liabilities are equivalent to approximately 20% of its total assets. Low current liabilities are not boosting the ROCE too much.
What We Can Learn From Evonik Industries's ROCE
With that in mind, Evonik Industries's ROCE appears pretty good. There might be better investments than Evonik Industries 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.
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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.