Today we'll evaluate Svenska Cellulosa Aktiebolaget SCA (publ) (STO:SCA B) to determine whether it could have potential as an investment idea. 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.
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.
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. All else being equal, a better business will have a higher ROCE. In brief, it is a useful tool, but it is not without drawbacks. 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 Svenska Cellulosa Aktiebolaget:
0.032 = kr2.9b ÷ (kr99b - kr8.2b) (Based on the trailing twelve months to December 2019.)
So, Svenska Cellulosa Aktiebolaget has an ROCE of 3.2%.
Does Svenska Cellulosa Aktiebolaget Have A Good ROCE?
ROCE can be useful when making comparisons, such as between similar companies. In this analysis, Svenska Cellulosa Aktiebolaget's ROCE appears meaningfully below the 7.5% average reported by the Forestry industry. This could be seen as a negative, as it suggests some competitors may be employing their capital more efficiently. Aside from the industry comparison, Svenska Cellulosa Aktiebolaget's ROCE is mediocre in absolute terms, considering the risk of investing in stocks versus the safety of a bank account. Readers may find more attractive investment prospects elsewhere.
In our analysis, Svenska Cellulosa Aktiebolaget's ROCE appears to be 3.2%, compared to 3 years ago, when its ROCE was 1.1%. This makes us think the business might be improving. You can see in the image below how Svenska Cellulosa Aktiebolaget's ROCE compares to its industry. Click to see more on past growth.
Remember that this metric is backwards looking - it shows what has happened in the past, and does not accurately predict the future. 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 Svenska Cellulosa Aktiebolaget.
How Svenska Cellulosa Aktiebolaget's Current Liabilities Impact Its ROCE
Current liabilities are short term bills and invoices that need to be paid in 12 months or less. 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 check the impact of this, we calculate if a company has high current liabilities relative to its total assets.
Svenska Cellulosa Aktiebolaget has total assets of kr99b and current liabilities of kr8.2b. As a result, its current liabilities are equal to approximately 8.3% of its total assets. With low levels of current liabilities, at least Svenska Cellulosa Aktiebolaget's mediocre ROCE is not unduly boosted.
The Bottom Line On Svenska Cellulosa Aktiebolaget's ROCE
If performance improves, then Svenska Cellulosa Aktiebolaget may be an OK investment, especially at the right valuation. But note: make sure you look for a great company, not just the first idea you come across. So take a peek at this free list of interesting companies with strong recent earnings growth (and a P/E ratio below 20).
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 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.
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.