Is TE Connectivity Ltd. (NYSE:TEL) Creating Value For Shareholders?
Today we are going to look at TE Connectivity Ltd. (NYSE:TEL) to see whether it might be an attractive investment prospect. Specifically, we're going to calculate its Return On Capital Employed (ROCE), in the hopes of getting some insight into 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.
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. 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?
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 TE Connectivity:
0.13 = US$2.2b ÷ (US$20b - US$3.4b) (Based on the trailing twelve months to December 2019.)
So, TE Connectivity has an ROCE of 13%.
See our latest analysis for TE Connectivity
Does TE Connectivity Have A Good ROCE?
ROCE is commonly used for comparing the performance of similar businesses. Using our data, TE Connectivity's ROCE appears to be around the 11% average of the Electronic industry. Independently of how TE Connectivity compares to its industry, its ROCE in absolute terms appears decent, and the company may be worthy of closer investigation.
The image below shows how TE Connectivity's ROCE compares to its industry, and you can click it to see more detail on its past growth.
When considering this metric, keep in mind that it is backwards looking, and not necessarily predictive. ROCE can be deceptive for cyclical businesses, as returns can look incredible in boom times, and terribly low in downturns. This is because ROCE only looks at one year, instead of considering returns across a whole cycle. Future performance is what matters, and you can see analyst predictions in our free report on analyst forecasts for the company.
How TE Connectivity's Current Liabilities Impact Its ROCE
Liabilities, such as supplier bills and bank overdrafts, are referred to as current liabilities if they need to be paid within 12 months. 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 counteract this, we check if a company has high current liabilities, relative to its total assets.
TE Connectivity has total assets of US$20b and current liabilities of US$3.4b. As a result, its current liabilities are equal to approximately 17% of its total assets. Current liabilities are minimal, limiting the impact on ROCE.
The Bottom Line On TE Connectivity's ROCE
This is good to see, and with a sound ROCE, TE Connectivity could be worth a closer look. TE Connectivity 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 like to buy stocks alongside management, then you might just love this free list of companies. (Hint: insiders have been buying them).
If you spot an error that warrants correction, please contact the editor at editorial-team@simplywallst.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.
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.
