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Are MKB Nedsense NV’s (AMS:NEDSE) High Returns Really That Great?

Simply Wall St

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Today we are going to look at MKB Nedsense NV (AMS:NEDSE) to see whether it might be an attractive investment prospect. 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 up, we'll look at what ROCE is and how we calculate it. Next, we'll compare it to others in its industry. Then we'll determine how its current liabilities are affecting 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. 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 MKB Nedsense:

0.21 = €1.5m ÷ (€7.3m - €132k) (Based on the trailing twelve months to December 2018.)

So, MKB Nedsense has an ROCE of 21%.

See our latest analysis for MKB Nedsense

Is MKB Nedsense's ROCE Good?

ROCE is commonly used for comparing the performance of similar businesses. Using our data, we find that MKB Nedsense's ROCE is meaningfully better than the 11% average in the Software industry. We consider this a positive sign, because it suggests it uses capital more efficiently than similar companies. Setting aside the comparison to its industry for a moment, MKB Nedsense's ROCE in absolute terms currently looks quite high.

ENXTAM:NEDSE Past Revenue and Net Income, June 25th 2019

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. This is because ROCE only looks at one year, instead of considering returns across a whole cycle. How cyclical is MKB Nedsense? You can see for yourself by looking at this free graph of past earnings, revenue and cash flow.

How MKB Nedsense's Current Liabilities Impact 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 counteract this, we check if a company has high current liabilities, relative to its total assets.

MKB Nedsense has total liabilities of €132k and total assets of €7.3m. As a result, its current liabilities are equal to approximately 1.8% of its total assets. Modest current liabilities are not boosting MKB Nedsense's very nice ROCE.

Our Take On MKB Nedsense's ROCE

This suggests the company would be worth researching in more depth. MKB Nedsense 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.

If you are like me, then you will not want to miss this free list of growing companies that insiders are 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 editorial-team@simplywallst.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.