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Today we'll evaluate Evolution Mining Limited (ASX:EVN) to determine whether it could have potential as an investment idea. 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. Second, we'll look at its ROCE compared 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 Evolution Mining:
0.11 = AU$309m ÷ (AU$3.0b - AU$276m) (Based on the trailing twelve months to December 2018.)
So, Evolution Mining has an ROCE of 11%.
Is Evolution Mining's ROCE Good?
ROCE can be useful when making comparisons, such as between similar companies. In our analysis, Evolution Mining's ROCE is meaningfully higher than the 9.1% average in the Metals and Mining 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. Separate from Evolution Mining's performance relative to its industry, its ROCE in absolute terms looks satisfactory, and it may be worth researching in more depth.
In our analysis, Evolution Mining's ROCE appears to be 11%, compared to 3 years ago, when its ROCE was 7.1%. This makes us wonder if the company is improving.
When considering ROCE, bear in mind that it reflects the past and does not necessarily 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, after all, simply a snap shot of a single year. Remember that most companies like Evolution Mining are cyclical businesses. Since the future is so important for investors, you should check out our free report on analyst forecasts for Evolution Mining.
Evolution Mining's Current Liabilities And Their Impact On 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 check the impact of this, we calculate if a company has high current liabilities relative to its total assets.
Evolution Mining has total liabilities of AU$276m and total assets of AU$3.0b. As a result, its current liabilities are equal to approximately 9.2% of its total assets. With low current liabilities, Evolution Mining's decent ROCE looks that much more respectable.
The Bottom Line On Evolution Mining's ROCE
This is good to see, and while better prospects may exist, Evolution Mining seems worth researching further. But note: Evolution Mining may not be the best stock to buy. So take a peek at this free list of interesting companies with strong recent earnings growth (and a P/E ratio below 20).
If you like to buy stocks alongside management, then you might just love this free list of companies. (Hint: insiders have been buying them).
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.