U.S. Markets closed

Why You Should Care About Progress-Werk Oberkirch AG’s (FRA:PWO) Low Return On Capital

Simply Wall St

Today we'll evaluate Progress-Werk Oberkirch AG (FRA:PWO) 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. 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. 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.'

So, How Do We Calculate ROCE?

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 Progress-Werk Oberkirch:

0.062 = €17m ÷ (€424m - €158m) (Based on the trailing twelve months to March 2019.)

Therefore, Progress-Werk Oberkirch has an ROCE of 6.2%.

See our latest analysis for Progress-Werk Oberkirch

Is Progress-Werk Oberkirch's ROCE Good?

ROCE can be useful when making comparisons, such as between similar companies. We can see Progress-Werk Oberkirch's ROCE is meaningfully below the Auto Components industry average of 9.1%. This performance could be negative if sustained, as it suggests the business may underperform its industry. Aside from the industry comparison, Progress-Werk Oberkirch's ROCE is mediocre in absolute terms, considering the risk of investing in stocks versus the safety of a bank account. It is possible that there are more rewarding investments out there.

The image below shows how Progress-Werk Oberkirch's ROCE compares to its industry, and you can click it to see more detail on its past growth.

DB:PWO Past Revenue and Net Income, July 22nd 2019

It is important to remember that ROCE shows past performance, and is 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. ROCE is, after all, simply a snap shot of a single year. Future performance is what matters, and you can see analyst predictions in our free report on analyst forecasts for the company.

How Progress-Werk Oberkirch's Current Liabilities Impact Its ROCE

Current liabilities are short term bills and invoices that need to be paid in 12 months or less. 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.

Progress-Werk Oberkirch has total assets of €424m and current liabilities of €158m. As a result, its current liabilities are equal to approximately 37% of its total assets. Progress-Werk Oberkirch has a medium level of current liabilities, which would boost its ROCE somewhat.

The Bottom Line On Progress-Werk Oberkirch's ROCE

With this level of liabilities and a mediocre ROCE, there are potentially better investments out there. 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.

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.