Is Valero Energy Corporation’s (NYSE:VLO) 10% ROCE Any Good?
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Today we'll evaluate Valero Energy Corporation (NYSE:VLO) to determine whether it could have potential as an investment idea. Specifically, we're going to calculate its Return On Capital Employed (ROCE), in the hopes of getting some insight into the business.
First of all, we'll work out how to calculate ROCE. 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 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. In brief, it is a useful tool, but it is not without drawbacks. Renowned investment researcher Michael Mauboussin has suggested that a high ROCE can indicate that 'one dollar invested in the company generates value of more than one dollar'.
So, How Do We Calculate ROCE?
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 Valero Energy:
0.10 = US$4.1b ÷ (US$52b - US$13b) (Based on the trailing twelve months to March 2019.)
Therefore, Valero Energy has an ROCE of 10%.
View our latest analysis for Valero Energy
Does Valero Energy Have A Good ROCE?
One way to assess ROCE is to compare similar companies. Using our data, we find that Valero Energy's ROCE is meaningfully better than the 7.4% average in the Oil and Gas industry. We would consider this a positive, as it suggests it is using capital more effectively than other similar companies. Setting aside the industry comparison for now, Valero Energy'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.
Valero Energy's current ROCE of 10% is lower than 3 years ago, when the company reported a 15% ROCE. So investors might consider if it has had issues recently.
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. Given the industry it operates in, Valero Energy could be considered cyclical. Since the future is so important for investors, you should check out our free report on analyst forecasts for Valero Energy.
How Valero Energy's Current Liabilities Impact Its ROCE
Current liabilities include invoices, such as supplier payments, short-term debt, or a tax bill, that 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 check the impact of this, we calculate if a company has high current liabilities relative to its total assets.
Valero Energy has total liabilities of US$13b and total assets of US$52b. As a result, its current liabilities are equal to approximately 25% of its total assets. This is a modest level of current liabilities, which would only have a small effect on ROCE.
What We Can Learn From Valero Energy's ROCE
That said, Valero Energy's ROCE is mediocre, there may be more attractive investments around. You might be able to find a better investment than Valero Energy. 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.
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.
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. Thank you for reading.
