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Today we'll evaluate Macquarie Telecom Group Limited (ASX:MAQ) 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.
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. 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?
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 Macquarie Telecom Group:
0.11 = AU$23m ÷ (AU$246m - AU$40m) (Based on the trailing twelve months to December 2019.)
So, Macquarie Telecom Group has an ROCE of 11%.
Does Macquarie Telecom Group Have A Good ROCE?
ROCE is commonly used for comparing the performance of similar businesses. It appears that Macquarie Telecom Group's ROCE is fairly close to the Telecom industry average of 9.5%. Separate from Macquarie Telecom Group's performance relative to its industry, its ROCE in absolute terms looks satisfactory, and it may be worth researching in more depth.
You can click on the image below to see (in greater detail) how Macquarie Telecom Group's past growth compares to other companies.
When considering ROCE, bear in mind that it reflects the past and does not necessarily predict the future. ROCE can be deceptive for cyclical businesses, as returns can look incredible in boom times, and terribly low in downturns. This is because ROCE only looks at one year, instead of considering returns across a whole cycle. Since the future is so important for investors, you should check out our free report on analyst forecasts for Macquarie Telecom Group.
What Are Current Liabilities, And How Do They Affect Macquarie Telecom Group's 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 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 check the impact of this, we calculate if a company has high current liabilities relative to its total assets.
Macquarie Telecom Group has total assets of AU$246m and current liabilities of AU$40m. As a result, its current liabilities are equal to approximately 16% of its total assets. Current liabilities are minimal, limiting the impact on ROCE.
What We Can Learn From Macquarie Telecom Group's ROCE
With that in mind, Macquarie Telecom Group's ROCE appears pretty good. Macquarie Telecom Group 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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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. We aim to bring you long-term focused analysis driven by fundamental data. Note that our analysis may not factor in the latest price-sensitive company announcements or qualitative material. Simply Wall St has no position in any stocks mentioned. Thank you for reading.