Today we’ll evaluate AudioCodes Ltd. (NASDAQ:AUDC) to determine whether it could have potential as an investment idea. 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. Finally, we’ll look at how its current liabilities affect its ROCE.
Return On Capital Employed (ROCE): What is it?
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. 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 AudioCodes:
0.12 = US$9.5m ÷ (US$178m – US$56m) (Based on the trailing twelve months to September 2018.)
Therefore, AudioCodes has an ROCE of 12%.
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Does AudioCodes Have A Good ROCE?
When making comparisons between similar businesses, investors may find ROCE useful. In our analysis, AudioCodes’s ROCE is meaningfully higher than the 7.5% average in the Communications industry. We would consider this a positive, as it suggests it is using capital more effectively than other similar companies. Independently of how AudioCodes compares to its industry, its ROCE in absolute terms appears decent, and the company may be worthy of closer investigation.
In our analysis, AudioCodes’s ROCE appears to be 12%, compared to 3 years ago, when its ROCE was 1.6%. This makes us think about whether the company has been reinvesting shrewdly.
When considering ROCE, bear in mind that it reflects the past and does not necessarily predict the future. 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. Future performance is what matters, and you can see analyst predictions in our free report on analyst forecasts for the company.
Do AudioCodes’s Current Liabilities Skew Its ROCE?
Short term (or current) liabilities, are things like supplier invoices, overdrafts, or tax bills 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 counteract this, we check if a company has high current liabilities, relative to its total assets.
AudioCodes has total assets of US$178m and current liabilities of US$56m. Therefore its current liabilities are equivalent to approximately 31% of its total assets. AudioCodes has a medium level of current liabilities, which would boost the ROCE.
What We Can Learn From AudioCodes’s ROCE
While its ROCE looks good, it’s worth remembering that the current liabilities are making the business look better. Of course you might be able to find a better stock than AudioCodes. So you may wish to see this free collection of other companies that have grown earnings strongly.
I will like AudioCodes better if I see some big insider buys. While we wait, check out this free list of growing companies with considerable, recent, insider buying.
To help readers see past the short term volatility of the financial market, we aim to bring you a long-term focused research analysis purely driven by fundamental data. Note that our analysis does not factor in the latest price-sensitive company announcements.
The author is an independent contributor and at the time of publication had no position in the stocks mentioned. For errors that warrant correction please contact the editor at email@example.com.