Today we'll evaluate Hornbach Holding AG & Co. KGaA (ETR:HBH) 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.
Firstly, we'll go over how we calculate ROCE. 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 is a metric for evaluating how much pre-tax income (in percentage terms) a company earns on the capital invested in its business. All else being equal, a better business will have a higher ROCE. Ultimately, it is a useful but imperfect metric. Author Edwin Whiting says to be careful when comparing the ROCE of different businesses, since 'No two businesses are exactly alike.'
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 Hornbach Holding KGaA:
0.051 = €145m ÷ (€3.8b - €930m) (Based on the trailing twelve months to May 2019.)
So, Hornbach Holding KGaA has an ROCE of 5.1%.
Is Hornbach Holding KGaA's ROCE Good?
ROCE can be useful when making comparisons, such as between similar companies. We can see Hornbach Holding KGaA's ROCE is around the 5.5% average reported by the Specialty Retail industry. Setting aside the industry comparison for now, Hornbach Holding KGaA's ROCE is mediocre in absolute terms, considering the risk of investing in stocks versus the safety of a bank account. Readers may find more attractive investment prospects elsewhere.
Hornbach Holding KGaA's current ROCE of 5.1% is lower than its ROCE in the past, which was 7.1%, 3 years ago. Therefore we wonder if the company is facing new headwinds. You can click on the image below to see (in greater detail) how Hornbach Holding KGaA'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. Companies in cyclical industries can be difficult to understand using ROCE, as returns typically look high during boom times, and low during 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 Hornbach Holding KGaA.
How Hornbach Holding KGaA'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 counteract this, we check if a company has high current liabilities, relative to its total assets.
Hornbach Holding KGaA has total assets of €3.8b and current liabilities of €930m. As a result, its current liabilities are equal to approximately 25% of its total assets. It is good to see a restrained amount of current liabilities, as this limits the effect on ROCE.
Our Take On Hornbach Holding KGaA's ROCE
That said, Hornbach Holding KGaA's ROCE is mediocre, there may be more attractive investments around. But note: make sure you look for a great company, not just the first idea you come across. So take a peek at this free list of interesting companies with strong recent earnings growth (and a P/E ratio below 20).
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 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.