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Visteon Corporation (NASDAQ:VC) Might Not Be A Great Investment

Simply Wall St

Today we'll look at Visteon Corporation (NASDAQ:VC) 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 up, we'll look at what ROCE is and how we calculate it. Second, we'll look at its ROCE compared to similar companies. And finally, we'll look at how its current liabilities are impacting its ROCE.

Understanding Return On Capital Employed (ROCE)

ROCE measures the 'return' (pre-tax profit) a company generates from capital employed in its business. All else being equal, a better business will have a higher ROCE. Overall, it is a valuable metric that has its flaws. 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 Visteon:

0.078 = US$110m ÷ (US$2.2b - US$762m) (Based on the trailing twelve months to September 2019.)

Therefore, Visteon has an ROCE of 7.8%.

See our latest analysis for Visteon

Does Visteon Have A Good ROCE?

ROCE can be useful when making comparisons, such as between similar companies. In this analysis, Visteon's ROCE appears meaningfully below the 15% average reported by the Auto Components industry. This performance could be negative if sustained, as it suggests the business may underperform its industry. Aside from the industry comparison, Visteon'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.

Visteon's current ROCE of 7.8% is lower than its ROCE in the past, which was 15%, 3 years ago. This makes us wonder if the business is facing new challenges. You can click on the image below to see (in greater detail) how Visteon's past growth compares to other companies.

NasdaqGS:VC Past Revenue and Net Income, December 11th 2019
NasdaqGS:VC Past Revenue and Net Income, December 11th 2019

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. What happens in the future is pretty important for investors, so we have prepared a free report on analyst forecasts for Visteon.

Do Visteon's Current Liabilities Skew 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. 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 counteract this, we check if a company has high current liabilities, relative to its total assets.

Visteon has total assets of US$2.2b and current liabilities of US$762m. Therefore its current liabilities are equivalent to approximately 35% of its total assets. Visteon's ROCE is improved somewhat by its moderate amount of current liabilities.

What We Can Learn From Visteon's ROCE

With this level of liabilities and a mediocre ROCE, there are potentially better investments out there. You might be able to find a better investment than Visteon. 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).

If you are like me, then you will not want to miss this free list of growing companies that insiders are buying.

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.