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Today we'll look at Melco Resorts & Entertainment Limited (NASDAQ:MLCO) 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.
Firstly, we'll go over how we calculate ROCE. Then we'll compare its ROCE to similar companies. And finally, we'll look at how its current liabilities are impacting its ROCE.
What is Return On Capital Employed (ROCE)?
ROCE measures the amount of pre-tax profits a company can generate from the capital employed in its business. Generally speaking a higher ROCE is better. 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'.
How Do You Calculate Return On Capital Employed?
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 Melco Resorts & Entertainment:
0.091 = US$616m ÷ (US$8.9b - US$2.1b) (Based on the trailing twelve months to December 2018.)
Therefore, Melco Resorts & Entertainment has an ROCE of 9.1%.
Does Melco Resorts & Entertainment Have A Good ROCE?
When making comparisons between similar businesses, investors may find ROCE useful. Using our data, Melco Resorts & Entertainment's ROCE appears to be around the 10% average of the Hospitality industry. Aside from the industry comparison, Melco Resorts & Entertainment's ROCE is mediocre in absolute terms, considering the risk of investing in stocks versus the safety of a bank account. It is possible that there are more rewarding investments out there.
In our analysis, Melco Resorts & Entertainment's ROCE appears to be 9.1%, compared to 3 years ago, when its ROCE was 1.1%. This makes us think the business might be improving.
When considering ROCE, bear in mind that it reflects the past and does not necessarily 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, after all, simply a snap shot of a single year. What happens in the future is pretty important for investors, so we have prepared a free report on analyst forecasts for Melco Resorts & Entertainment.
What Are Current Liabilities, And How Do They Affect Melco Resorts & Entertainment's ROCE?
Current liabilities are short term bills and invoices that need to be paid in 12 months or less. 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 counter this, investors can check if a company has high current liabilities relative to total assets.
Melco Resorts & Entertainment has total liabilities of US$2.1b and total assets of US$8.9b. As a result, its current liabilities are equal to approximately 24% of its total assets. It is good to see a restrained amount of current liabilities, as this limits the effect on ROCE.
What We Can Learn From Melco Resorts & Entertainment's ROCE
If Melco Resorts & Entertainment continues to earn an uninspiring ROCE, there may be better places to invest. Of course, you might also be able to find a better stock than Melco Resorts & Entertainment. So you may wish to see this free collection of other companies that have grown earnings strongly.
I will like Melco Resorts & Entertainment better if I see some big insider buys. While we wait, check out this free list of growing companies with considerable, recent, insider buying.
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 email@example.com. 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.