Today we’ll look at Harris Corporation (NYSE:HRS) and reflect on its potential as an investment. Specifically, we’re going to calculate its Return On Capital Employed (ROCE), in the hopes of getting some insight into the 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 is a metric for evaluating how much pre-tax income (in percentage terms) a company earns on the capital invested 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.’
How Do You Calculate Return On Capital Employed?
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 Harris:
0.16 = US$1.3b ÷ (US$9.9b – US$1.8b) (Based on the trailing twelve months to December 2018.)
So, Harris has an ROCE of 16%.
Is Harris’s ROCE Good?
ROCE is commonly used for comparing the performance of similar businesses. Using our data, we find that Harris’s ROCE is meaningfully better than the 12% average in the Aerospace & Defense industry. I think that’s good to see, since it implies the company is better than other companies at making the most of its capital. Independently of how Harris compares to its industry, its ROCE in absolute terms appears decent, and the company may be worthy of closer investigation.
As we can see, Harris currently has an ROCE of 16% compared to its ROCE 3 years ago, which was 11%. This makes us think the business might be improving.
Remember that this metric is backwards looking – it shows what has happened in the past, and does not accurately 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 only a point-in-time measure. Since the future is so important for investors, you should check out our free report on analyst forecasts for Harris.
How Harris’s Current Liabilities Impact Its ROCE
Current liabilities are short term bills and invoices that need to be paid in 12 months or less. 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 counteract this, we check if a company has high current liabilities, relative to its total assets.
Harris has total liabilities of US$1.8b and total assets of US$9.9b. As a result, its current liabilities are equal to approximately 18% of its total assets. Current liabilities are minimal, limiting the impact on ROCE.
Our Take On Harris’s ROCE
This is good to see, and with a sound ROCE, Harris could be worth a closer look. You might be able to find a better buy than Harris. 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).
If you like to buy stocks alongside management, then you might just love this free list of companies. (Hint: insiders have been buying them).
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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.