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Is Neopost S.A.’s (EPA:NEO) 7.7% Return On Capital Employed Good News?

Simply Wall St

Today we are going to look at Neopost S.A. (EPA:NEO) 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 of all, we'll work out how to calculate ROCE. Next, we'll compare it to others in its industry. Finally, we'll look at how its current liabilities affect its ROCE.

What is 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. In general, businesses with a higher ROCE are usually better quality. In brief, it is a useful tool, but it is not without drawbacks. 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?

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 Neopost:

0.077 = €162m ÷ (€2.8b - €733m) (Based on the trailing twelve months to January 2019.)

So, Neopost has an ROCE of 7.7%.

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Is Neopost's ROCE Good?

ROCE can be useful when making comparisons, such as between similar companies. We can see Neopost's ROCE is around the 7.7% average reported by the Tech industry. Separate from how Neopost stacks up against its industry, its ROCE in absolute terms is mediocre; relative to the returns on government bonds. Investors may wish to consider higher-performing investments.

Neopost's current ROCE of 7.7% is lower than 3 years ago, when the company reported a 11% ROCE. So investors might consider if it has had issues recently.

ENXTPA:NEO Past Revenue and Net Income, May 18th 2019

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. ROCE is only a point-in-time measure. What happens in the future is pretty important for investors, so we have prepared a free report on analyst forecasts for Neopost.

What Are Current Liabilities, And How Do They Affect Neopost's ROCE?

Current liabilities are short term bills and invoices that need to be paid in 12 months or less. 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 counter this, investors can check if a company has high current liabilities relative to total assets.

Neopost has total liabilities of €733m and total assets of €2.8b. As a result, its current liabilities are equal to approximately 26% of its total assets. It is good to see a restrained amount of current liabilities, as this limits the effect on ROCE.

The Bottom Line On Neopost's ROCE

That said, Neopost's ROCE is mediocre, there may be more attractive investments around. Of course, you might also be able to find a better stock than Neopost. So you may wish to see this free collection of other companies that have grown earnings strongly.

I will like Neopost 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 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.