Is NuVista Energy Ltd. (TSE:NVA) Investing Effectively In Its Business?
Today we'll look at NuVista Energy Ltd. (TSE:NVA) 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. Last but not least, we'll look at what impact its current liabilities have on its ROCE.
Understanding Return On Capital Employed (ROCE)
ROCE is a metric for evaluating how much pre-tax income (in percentage terms) a company earns on the capital invested in its 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. 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 NuVista Energy:
0.064 = CA$136m ÷ (CA$2.2b - CA$110m) (Based on the trailing twelve months to March 2019.)
Therefore, NuVista Energy has an ROCE of 6.4%.
See our latest analysis for NuVista Energy
Is NuVista Energy's ROCE Good?
ROCE can be useful when making comparisons, such as between similar companies. Using our data, NuVista Energy's ROCE appears to be around the 6.4% average of the Oil and Gas industry. Separate from how NuVista Energy 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.
NuVista Energy delivered an ROCE of 6.4%, which is better than 3 years ago, as was making losses back then. That implies the business has been improving. The image below shows how NuVista Energy's ROCE compares to its industry, and you can click it to see more detail on its past growth.
It is important to remember that ROCE shows past performance, and is not necessarily predictive. 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. We note NuVista Energy could be considered a cyclical business. What happens in the future is pretty important for investors, so we have prepared a free report on analyst forecasts for NuVista Energy.
What Are Current Liabilities, And How Do They Affect NuVista Energy'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 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.
NuVista Energy has total assets of CA$2.2b and current liabilities of CA$110m. Therefore its current liabilities are equivalent to approximately 4.9% of its total assets. NuVista Energy reports few current liabilities, which have a negligible impact on its unremarkable ROCE.
What We Can Learn From NuVista Energy's ROCE
Based on this information, NuVista Energy appears to be a mediocre business. You might be able to find a better investment than NuVista Energy. If you want a selection of possible winners, check out this free list of interesting companies that trade on a P/E below 20 (but have proven they can grow earnings).
For those who like to find winning investments this free list of growing companies with recent insider purchasing, could be just the ticket.
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.
