Today we’ll look at Hewlett Packard Enterprise Company (NYSE:HPE) 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. Then we’ll determine how its current liabilities are affecting its ROCE.
Understanding 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. Ultimately, it is a useful but imperfect metric. Renowned investment researcher Michael Mauboussin has suggested that a high ROCE can indicate that ‘one dollar invested in the company generates value of more than one dollar’.
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 Hewlett Packard Enterprise:
0.029 = US$1.1b ÷ (US$55b – US$17b) (Based on the trailing twelve months to October 2018.)
Therefore, Hewlett Packard Enterprise has an ROCE of 2.9%.
Does Hewlett Packard Enterprise Have A Good ROCE?
When making comparisons between similar businesses, investors may find ROCE useful. Using our data, Hewlett Packard Enterprise’s ROCE appears to be significantly below the 18% average in the Tech industry. This could be seen as a negative, as it suggests some competitors may be employing their capital more efficiently. Regardless of how Hewlett Packard Enterprise stacks up against its industry, its ROCE in absolute terms is quite low (especially compared to a bank account). It is likely that there are more attractive prospects out there.
Hewlett Packard Enterprise’s current ROCE of 2.9% is lower than its ROCE in the past, which was 5.2%, 3 years ago. Therefore we wonder if the company is facing new headwinds.
When considering this metric, keep in mind that it is backwards looking, and not necessarily predictive. 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. Future performance is what matters, and you can see analyst predictions in our free report on analyst forecasts for the company.
How Hewlett Packard Enterprise’s Current Liabilities Impact Its ROCE
Liabilities, such as supplier bills and bank overdrafts, are referred to as current liabilities if they need to be paid within 12 months. 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.
Hewlett Packard Enterprise has total liabilities of US$17b and total assets of US$55b. As a result, its current liabilities are equal to approximately 31% of its total assets. In light of sufficient current liabilities to noticeably boost the ROCE, Hewlett Packard Enterprise’s ROCE is concerning.
What We Can Learn From Hewlett Packard Enterprise’s ROCE
So researching other companies may be a better use of your time. Of course you might be able to find a better stock than Hewlett Packard Enterprise. So you may wish to see this free collection of other companies that have grown earnings strongly.
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To help readers see past the short term volatility of the financial market, we aim to bring you a long-term focused research analysis purely driven by fundamental data. Note that our analysis does not factor in the latest price-sensitive company announcements.
The author is an independent contributor and at the time of publication had no position in the stocks mentioned. For errors that warrant correction please contact the editor at firstname.lastname@example.org.