Today we are going to look at BATM Advanced Communications Ltd. (LON:BVC) 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, we'll go over how we calculate ROCE. 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.
Return On Capital Employed (ROCE): What is it?
ROCE is a metric for evaluating how much pre-tax income (in percentage terms) a company earns on the capital invested in its business. In general, businesses with a higher ROCE are usually better quality. 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'.
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 BATM Advanced Communications:
0.022 = US$2.2m ÷ (US$141m - US$40m) (Based on the trailing twelve months to June 2019.)
Therefore, BATM Advanced Communications has an ROCE of 2.2%.
Does BATM Advanced Communications Have A Good ROCE?
ROCE can be useful when making comparisons, such as between similar companies. We can see BATM Advanced Communications's ROCE is meaningfully below the Communications industry average of 11%. This could be seen as a negative, as it suggests some competitors may be employing their capital more efficiently. Putting aside BATM Advanced Communications's performance relative to its industry, its ROCE in absolute terms is poor - considering the risk of owning stocks compared to government bonds. There are potentially more appealing investments elsewhere.
BATM Advanced Communications has an ROCE of 2.2%, but it didn't have an ROCE 3 years ago, since it was unprofitable. That implies the business has been improving. You can see in the image below how BATM Advanced Communications's ROCE compares to its industry. Click to see more on past growth.
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. 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 BATM Advanced Communications.
Do BATM Advanced Communications's Current Liabilities Skew 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 counteract this, we check if a company has high current liabilities, relative to its total assets.
BATM Advanced Communications has total assets of US$141m and current liabilities of US$40m. Therefore its current liabilities are equivalent to approximately 28% of its total assets. This is not a high level of current liabilities, which would not boost the ROCE by much.
Our Take On BATM Advanced Communications's ROCE
That's not a bad thing, however BATM Advanced Communications has a weak ROCE and may not be an attractive investment. You might be able to find a better investment than BATM Advanced Communications. 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).
There are plenty of other companies that have insiders buying up shares. You probably do 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 email@example.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.
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