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Today we'll evaluate Leggett & Platt, Incorporated (NYSE:LEG) to determine whether it could have potential as an investment idea. To be precise, we'll consider its Return On Capital Employed (ROCE), as that will inform our view of the quality of the business.
First, 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 '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. 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 Leggett & Platt:
0.11 = US$444m ÷ (US$5.0b - US$867m) (Based on the trailing twelve months to March 2019.)
So, Leggett & Platt has an ROCE of 11%.
Does Leggett & Platt Have A Good ROCE?
ROCE is commonly used for comparing the performance of similar businesses. Using our data, Leggett & Platt's ROCE appears to be around the 11% average of the Consumer Durables industry. Regardless of where Leggett & Platt sits next to its industry, its ROCE in absolute terms appears satisfactory, and this company could be worth a closer look.
Leggett & Platt's current ROCE of 11% is lower than its ROCE in the past, which was 21%, 3 years ago. Therefore we wonder if the company is facing new headwinds. The image below shows how Leggett & Platt'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 misleading for companies in cyclical industries, with returns looking impressive during the boom times, but very weak during the busts. 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.
How Leggett & Platt's Current Liabilities Impact Its ROCE
Current liabilities include invoices, such as supplier payments, short-term debt, or a tax bill, that need to be paid within 12 months. 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 counter this, investors can check if a company has high current liabilities relative to total assets.
Leggett & Platt has total assets of US$5.0b and current liabilities of US$867m. Therefore its current liabilities are equivalent to approximately 18% of its total assets. Current liabilities are minimal, limiting the impact on ROCE.
The Bottom Line On Leggett & Platt's ROCE
This is good to see, and with a sound ROCE, Leggett & Platt could be worth a closer look. Leggett & Platt looks strong on this analysis, but there are plenty of other companies that could be a good opportunity . Here is a free list of companies growing earnings rapidly.
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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.