Today we'll look at Birla Cable Limited (NSE:BIRLACABLE) and reflect on its potential as an investment. 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. In general, businesses with a higher ROCE are usually better quality. Ultimately, it is a useful but imperfect metric. 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 Birla Cable:
0.29 = ₹549m ÷ (₹3.4b - ₹1.5b) (Based on the trailing twelve months to June 2019.)
So, Birla Cable has an ROCE of 29%.
Is Birla Cable's ROCE Good?
ROCE can be useful when making comparisons, such as between similar companies. Using our data, we find that Birla Cable's ROCE is meaningfully better than the 13% average in the Communications industry. We consider this a positive sign, because it suggests it uses capital more efficiently than similar companies. Setting aside the comparison to its industry for a moment, Birla Cable's ROCE in absolute terms currently looks quite high.
In our analysis, Birla Cable's ROCE appears to be 29%, compared to 3 years ago, when its ROCE was 15%. This makes us wonder if the company is improving. The image below shows how Birla Cable's ROCE compares to its industry, and you can click it to see more detail on its past growth.
When considering ROCE, bear in mind that it reflects the past and does not necessarily 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. How cyclical is Birla Cable? You can see for yourself by looking at this free graph of past earnings, revenue and cash flow.
What Are Current Liabilities, And How Do They Affect Birla Cable's 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 check the impact of this, we calculate if a company has high current liabilities relative to its total assets.
Birla Cable has total liabilities of ₹1.5b and total assets of ₹3.4b. Therefore its current liabilities are equivalent to approximately 44% of its total assets. A medium level of current liabilities boosts Birla Cable's ROCE somewhat.
What We Can Learn From Birla Cable's ROCE
Even so, it has a great ROCE, and could be an attractive prospect for further research. Birla Cable shapes up well under this analysis, but it is far from the only business delivering excellent numbers . You might also want to check this free collection of companies delivering excellent earnings growth.
I will like Birla Cable 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.