Today we'll evaluate Dycom Industries, Inc. (NYSE:DY) 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. Next, we'll compare it to others in its industry. Then we'll determine how its current liabilities are affecting its ROCE.
Understanding Return On Capital Employed (ROCE)
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. 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'.
How Do You Calculate Return On Capital Employed?
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 Dycom Industries:
0.061 = US$116m ÷ (US$2.2b - US$323m) (Based on the trailing twelve months to January 2020.)
So, Dycom Industries has an ROCE of 6.1%.
Does Dycom Industries Have A Good ROCE?
ROCE is commonly used for comparing the performance of similar businesses. We can see Dycom Industries's ROCE is meaningfully below the Construction industry average of 11%. This performance is not ideal, as it suggests the company may not be deploying its capital as effectively as some competitors. Separate from how Dycom Industries stacks up against its industry, its ROCE in absolute terms is mediocre; relative to the returns on government bonds. Readers may find more attractive investment prospects elsewhere.
Dycom Industries's current ROCE of 6.1% is lower than 3 years ago, when the company reported a 18% ROCE. Therefore we wonder if the company is facing new headwinds. You can see in the image below how Dycom Industries's ROCE compares to its industry. Click to see more on past growth.
When considering this metric, keep in mind that it is backwards looking, and not necessarily predictive. Companies in cyclical industries can be difficult to understand using ROCE, as returns typically look high during boom times, and low during 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 Dycom Industries.
What Are Current Liabilities, And How Do They Affect Dycom Industries's ROCE?
Current liabilities are short term bills and invoices that need to be paid in 12 months or less. 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 counter this, investors can check if a company has high current liabilities relative to total assets.
Dycom Industries has total assets of US$2.2b and current liabilities of US$323m. Therefore its current liabilities are equivalent to approximately 15% of its total assets. This is a modest level of current liabilities, which would only have a small effect on ROCE.
What We Can Learn From Dycom Industries's ROCE
With that in mind, we're not overly impressed with Dycom Industries's ROCE, so it may not be the most appealing prospect. Of course, you might find a fantastic investment by looking at a few good candidates. So take a peek at this free list of companies with modest (or no) debt, trading on a P/E below 20.
For those who like to find winning investments this free list of growing companies with recent insider purchasing, could be just the ticket.
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.
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