Today we are going to look at Planet Fitness, Inc. (NYSE:PLNT) to see whether it might be an attractive investment prospect. Specifically, we'll consider its Return On Capital Employed (ROCE), since that will give us an insight into how efficiently the business can generate profits from the capital it requires.
First, we'll go over how we calculate ROCE. Next, we'll compare it to others in its industry. And finally, we'll look at how its current liabilities are impacting its ROCE.
Return On Capital Employed (ROCE): What is it?
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. 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 Planet Fitness:
0.15 = US$215m ÷ (US$1.5b - US$125m) (Based on the trailing twelve months to June 2019.)
Therefore, Planet Fitness has an ROCE of 15%.
Is Planet Fitness's ROCE Good?
When making comparisons between similar businesses, investors may find ROCE useful. Using our data, we find that Planet Fitness's ROCE is meaningfully better than the 8.9% average in the Hospitality industry. I think that's good to see, since it implies the company is better than other companies at making the most of its capital. Independently of how Planet Fitness compares to its industry, its ROCE in absolute terms appears decent, and the company may be worthy of closer investigation.
You can see in the image below how Planet Fitness's ROCE compares to its industry. Click to see more on past growth.
It is important to remember that ROCE shows past performance, and is not necessarily predictive. 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 only a point-in-time measure. Since the future is so important for investors, you should check out our free report on analyst forecasts for Planet Fitness.
Do Planet Fitness'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. 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 counter this, investors can check if a company has high current liabilities relative to total assets.
Planet Fitness has total assets of US$1.5b and current liabilities of US$125m. Therefore its current liabilities are equivalent to approximately 8.2% of its total assets. Low current liabilities have only a minimal impact on Planet Fitness's ROCE, making its decent returns more credible.
Our Take On Planet Fitness's ROCE
If Planet Fitness can continue reinvesting in its business, it could be an attractive prospect. Planet Fitness shapes up well under this analysis, but it is far from the only business delivering excellent numbers . You might also want to check this free collection of companies delivering excellent earnings growth.
If you are like me, then you will not want to miss this free list of growing companies that insiders are buying.
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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.