Today we'll look at HEICO Corporation (NYSE:HEI) and reflect on its potential as an investment. Specifically, we'll consider its Return On Capital Employed (ROCE), since that will give us an insight into how efficiently the business can generate profits from the capital it requires.
First of all, we'll work out how to calculate ROCE. Next, we'll compare it to others in its industry. Then we'll determine how its current liabilities are affecting its ROCE.
Return On Capital Employed (ROCE): What is it?
ROCE measures the 'return' (pre-tax profit) a company generates from capital employed in its business. All else being equal, a better business will have a higher ROCE. 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?
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 HEICO:
0.17 = US$446m ÷ (US$3.0b - US$269m) (Based on the trailing twelve months to July 2019.)
So, HEICO has an ROCE of 17%.
Does HEICO Have A Good ROCE?
ROCE is commonly used for comparing the performance of similar businesses. In our analysis, HEICO's ROCE is meaningfully higher than the 11% average in the Aerospace & Defense industry. We consider this a positive sign, because it suggests it uses capital more efficiently than similar companies. Regardless of where HEICO sits next to its industry, its ROCE in absolute terms appears satisfactory, and this company could be worth a closer look.
You can see in the image below how HEICO'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. Companies in cyclical industries can be difficult to understand using ROCE, as returns typically look high during boom times, and low during busts. This is because ROCE only looks at one year, instead of considering returns across a whole cycle. What happens in the future is pretty important for investors, so we have prepared a free report on analyst forecasts for HEICO.
Do HEICO's Current Liabilities Skew Its 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.
HEICO has total liabilities of US$269m and total assets of US$3.0b. Therefore its current liabilities are equivalent to approximately 9.1% of its total assets. With low current liabilities, HEICO's decent ROCE looks that much more respectable.
The Bottom Line On HEICO's ROCE
This is good to see, and while better prospects may exist, HEICO seems worth researching further. There might be better investments than HEICO 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.
HEICO is not the only stock that insiders are buying. For those who like to find winning investments this free list of growing companies with recent insider purchasing, could be just the ticket.
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.
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