Today we are going to look at Savencia SA (EPA:SAVE) 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 up, we'll look at what ROCE is and how we calculate it. Then we'll compare its ROCE to similar companies. 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. Generally speaking a higher ROCE is better. 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.
How Do You Calculate Return On Capital Employed?
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 Savencia:
0.099 = €201m ÷ (€3.9b - €1.9b) (Based on the trailing twelve months to June 2019.)
Therefore, Savencia has an ROCE of 9.9%.
Is Savencia's ROCE Good?
When making comparisons between similar businesses, investors may find ROCE useful. It appears that Savencia's ROCE is fairly close to the Food industry average of 8.5%. Separate from Savencia's performance relative to its industry, its ROCE in absolute terms looks satisfactory, and it may be worth researching in more depth.
You can see in the image below how Savencia's ROCE compares to its industry. Click to see more on past growth.
When considering this metric, keep in mind that it is backwards looking, and not necessarily predictive. ROCE can be misleading for companies in cyclical industries, with returns looking impressive during the boom times, but very weak during the busts. ROCE is only a point-in-time measure. Future performance is what matters, and you can see analyst predictions in our free report on analyst forecasts for the company.
What Are Current Liabilities, And How Do They Affect Savencia's ROCE?
Current liabilities include invoices, such as supplier payments, short-term debt, or a tax bill, 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.
Savencia has current liabilities of €1.9b and total assets of €3.9b. As a result, its current liabilities are equal to approximately 48% of its total assets. With this level of current liabilities, Savencia's ROCE is boosted somewhat.
The Bottom Line On Savencia's ROCE
Savencia's ROCE does look good, but the level of current liabilities also contribute to that. Savencia looks strong on this analysis, but there are plenty of other companies that could be a good opportunity . Here is a free list of companies growing earnings rapidly.
I will like Savencia better if I see some big insider buys. While we wait, check out this free list of growing companies with considerable, recent, insider buying.
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