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Today we'll evaluate Amphenol Corporation (NYSE:APH) 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 up, we'll look at what ROCE is and how we calculate it. 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 measures the amount of pre-tax profits a company can generate from the capital employed 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?
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 Amphenol:
0.20 = US$1.7b ÷ (US$10b - US$1.6b) (Based on the trailing twelve months to March 2019.)
So, Amphenol has an ROCE of 20%.
Does Amphenol Have A Good ROCE?
ROCE can be useful when making comparisons, such as between similar companies. Using our data, we find that Amphenol's ROCE is meaningfully better than the 12% average in the Electronic industry. We would consider this a positive, as it suggests it is using capital more effectively than other similar companies. Separate from Amphenol's performance relative to its industry, its ROCE in absolute terms looks satisfactory, and it may be worth researching in more depth.
Remember that this metric is backwards looking - it shows what has happened in the past, and does not accurately predict the future. 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, after all, simply a snap shot of a single year. What happens in the future is pretty important for investors, so we have prepared a free report on analyst forecasts for Amphenol.
Amphenol's Current Liabilities And Their Impact On Its ROCE
Current liabilities are short term bills and invoices that need to be paid in 12 months or less. Due to the way ROCE is calculated, a high level of current liabilities makes a company look as though it has less capital employed, and thus can (sometimes unfairly) boost the ROCE. To counter this, investors can check if a company has high current liabilities relative to total assets.
Amphenol has total assets of US$10b and current liabilities of US$1.6b. Therefore its current liabilities are equivalent to approximately 16% of its total assets. Low current liabilities are not boosting the ROCE too much.
The Bottom Line On Amphenol's ROCE
This is good to see, and with a sound ROCE, Amphenol could be worth a closer look. There might be better investments than Amphenol out there, but you will have to work hard to find them . These promising businesses with rapidly growing earnings might be right up your alley.
I will like Amphenol better if I see some big insider buys. While we wait, check out this free list of growing companies with considerable, recent, insider buying.
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 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. Thank you for reading.