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Why You Should Care About Playa Hotels & Resorts N.V.’s (NASDAQ:PLYA) Low Return On Capital

Simply Wall St

Today we’ll look at Playa Hotels & Resorts N.V. (NASDAQ:PLYA) and reflect on its potential as an investment. To be precise, we’ll consider its Return On Capital Employed (ROCE), as that will inform our view of the quality of 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.

What is Return On Capital Employed (ROCE)?

ROCE measures the ‘return’ (pre-tax profit) a company generates from capital employed in its business. In general, businesses with a higher ROCE are usually better quality. Ultimately, it is a useful but imperfect metric. 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?

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 Playa Hotels & Resorts:

0.044 = US$86m ÷ (US$2.1b – US$166m) (Based on the trailing twelve months to December 2018.)

So, Playa Hotels & Resorts has an ROCE of 4.4%.

Check out our latest analysis for Playa Hotels & Resorts

Does Playa Hotels & Resorts Have A Good ROCE?

When making comparisons between similar businesses, investors may find ROCE useful. Using our data, Playa Hotels & Resorts’s ROCE appears to be significantly below the 9.9% average in the Hospitality industry. This could be seen as a negative, as it suggests some competitors may be employing their capital more efficiently. Regardless of how Playa Hotels & Resorts stacks up against its industry, its ROCE in absolute terms is quite low (especially compared to a bank account). Readers may wish to look for more rewarding investments.

Our data shows that Playa Hotels & Resorts currently has an ROCE of 4.4%, compared to its ROCE of 2.0% 3 years ago. This makes us think about whether the company has been reinvesting shrewdly.

NasdaqGS:PLYA Past Revenue and Net Income, March 6th 2019

Remember that this metric is backwards looking – it shows what has happened in the past, and does not accurately 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. This is because ROCE only looks at one year, instead of considering returns across a whole cycle. Future performance is what matters, and you can see analyst predictions in our free report on analyst forecasts for the company.

Playa Hotels & Resorts’s Current Liabilities And Their Impact On Its ROCE

Liabilities, such as supplier bills and bank overdrafts, are referred to as current liabilities if they need to be paid within 12 months. 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.

Playa Hotels & Resorts has total assets of US$2.1b and current liabilities of US$166m. As a result, its current liabilities are equal to approximately 7.8% of its total assets. Playa Hotels & Resorts has very few current liabilities, which have a minimal effect on its already low ROCE.

Our Take On Playa Hotels & Resorts’s ROCE

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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 editorial-team@simplywallst.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. Thank you for reading.