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What Can We Make Of Pangaea Logistics Solutions, Ltd.’s (NASDAQ:PANL) High Return On Capital?

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Today we'll look at Pangaea Logistics Solutions, Ltd. (NASDAQ:PANL) and reflect on its potential as an investment. 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. Then we'll compare its ROCE to similar companies. Finally, we'll look at how its current liabilities affect 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. Generally speaking a higher ROCE is better. 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'.

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 Pangaea Logistics Solutions:

0.08 = US$32m ÷ (US$485m - US$85m) (Based on the trailing twelve months to September 2019.)

Therefore, Pangaea Logistics Solutions has an ROCE of 8.0%.

See our latest analysis for Pangaea Logistics Solutions

Is Pangaea Logistics Solutions's ROCE Good?

ROCE can be useful when making comparisons, such as between similar companies. Using our data, we find that Pangaea Logistics Solutions's ROCE is meaningfully better than the 4.9% average in the Shipping industry. We would consider this a positive, as it suggests it is using capital more effectively than other similar companies. Aside from the industry comparison, Pangaea Logistics Solutions'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, Pangaea Logistics Solutions's ROCE appears to be 8.0%, compared to 3 years ago, when its ROCE was 5.6%. This makes us think the business might be improving. You can see in the image below how Pangaea Logistics Solutions's ROCE compares to its industry. Click to see more on past growth.

NasdaqCM:PANL Past Revenue and Net Income, December 12th 2019
NasdaqCM:PANL Past Revenue and Net Income, December 12th 2019

Remember that this metric is backwards looking - it shows what has happened in the past, and does not accurately 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. This is because ROCE only looks at one year, instead of considering returns across a whole cycle. Since the future is so important for investors, you should check out our free report on analyst forecasts for Pangaea Logistics Solutions.

Do Pangaea Logistics Solutions's Current Liabilities Skew 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 counter this, investors can check if a company has high current liabilities relative to total assets.

Pangaea Logistics Solutions has total liabilities of US$85m and total assets of US$485m. Therefore its current liabilities are equivalent to approximately 17% 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 Pangaea Logistics Solutions's ROCE

With that in mind, we're not overly impressed with Pangaea Logistics Solutions's ROCE, so it may not be the most appealing prospect. Of course, you might find a fantastic investment by looking at a few good candidates. So take a peek at this free list of companies with modest (or no) debt, trading on a P/E below 20.

There are plenty of other companies that have insiders buying up shares. You probably do not want to miss this free list of growing companies that insiders are buying.

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.

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. Thank you for reading.