Today we’ll evaluate Taitron Components Incorporated (NASDAQ:TAIT) to determine whether it could have potential as an investment idea. To be precise, we’ll consider its Return On Capital Employed (ROCE), as that will inform our view of the quality of the business.
First up, we’ll look at what ROCE is and how we calculate it. 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 measure of a company’s yearly pre-tax profit (its return), relative to the capital employed in the business. All else being equal, a better business will have a higher ROCE. 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.’
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 Taitron Components:
0.074 = US$791k ÷ (US$13m – US$1.0m) (Based on the trailing twelve months to September 2018.)
Therefore, Taitron Components has an ROCE of 7.4%.
Is Taitron Components’s ROCE Good?
ROCE can be useful when making comparisons, such as between similar companies. In this analysis, Taitron Components’s ROCE appears meaningfully below the 11% average reported by the Electronic industry. This could be seen as a negative, as it suggests some competitors may be employing their capital more efficiently. Separate from how Taitron Components stacks up against its industry, its ROCE in absolute terms is mediocre; relative to the returns on government bonds. Investors may wish to consider higher-performing investments.
Taitron Components delivered an ROCE of 7.4%, which is better than 3 years ago, as was making losses back then. That suggests the business has returned to profitability.
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. How cyclical is Taitron Components? You can see for yourself by looking at this free graph of past earnings, revenue and cash flow.
What Are Current Liabilities, And How Do They Affect Taitron Components’s ROCE?
Current liabilities are short term bills and invoices that need to be paid in 12 months or less. Due to the way the ROCE equation works, having large bills due in the near term can make it look as though a company has less capital employed, and thus a higher ROCE than usual. To check the impact of this, we calculate if a company has high current liabilities relative to its total assets.
Taitron Components has total liabilities of US$1.0m and total assets of US$13m. As a result, its current liabilities are equal to approximately 7.9% of its total assets. Taitron Components has a low level of current liabilities, which have a minimal impact on its uninspiring ROCE.
What We Can Learn From Taitron Components’s ROCE
Taitron Components looks like an ok business, but on this analysis it is not at the top of our buy list. You might be able to find a better buy than Taitron Components. 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).
I will like Taitron Components 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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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. Thank you for reading.