Today we'll look at Strategic Education, Inc. (NASDAQ:STRA) and reflect on its potential as an investment. 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 of all, we'll work out how to calculate ROCE. Then we'll compare its ROCE to similar companies. Finally, we'll look at how its current liabilities affect its ROCE.
What is Return On Capital Employed (ROCE)?
ROCE measures the 'return' (pre-tax profit) a company generates from capital employed in its business. In general, businesses with a higher ROCE are usually better quality. Overall, it is a valuable metric that has its flaws. 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 Strategic Education:
0.081 = US$132m ÷ (US$1.8b - US$157m) (Based on the trailing twelve months to December 2019.)
Therefore, Strategic Education has an ROCE of 8.1%.
Is Strategic Education's ROCE Good?
ROCE is commonly used for comparing the performance of similar businesses. We can see Strategic Education's ROCE is around the 7.6% average reported by the Consumer Services industry. Aside from the industry comparison, Strategic Education'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.
Strategic Education's current ROCE of 8.1% is lower than 3 years ago, when the company reported a 23% ROCE. Therefore we wonder if the company is facing new headwinds. You can see in the image below how Strategic Education'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. 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 Strategic Education.
Strategic Education's Current Liabilities And Their Impact On Its ROCE
Current liabilities are short term bills and invoices that need to be paid in 12 months or less. 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 counteract this, we check if a company has high current liabilities, relative to its total assets.
Strategic Education has current liabilities of US$157m and total assets of US$1.8b. As a result, its current liabilities are equal to approximately 8.8% of its total assets. Strategic Education reports few current liabilities, which have a negligible impact on its unremarkable ROCE.
What We Can Learn From Strategic Education's ROCE
Based on this information, Strategic Education appears to be a mediocre business. You might be able to find a better investment than Strategic Education. 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.
If you spot an error that warrants correction, please contact the editor at email@example.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.
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