Today we'll evaluate Worthington Industries, Inc. (NYSE:WOR) to determine whether it could have potential as an investment idea. In particular, we'll consider its Return On Capital Employed (ROCE), as that can give us insight into how profitably the company is able to employ capital in its 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.
What is Return On Capital Employed (ROCE)?
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. In brief, it is a useful tool, but it is not without drawbacks. 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?
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 Worthington Industries:
0.08 = US$161m ÷ (US$2.6b - US$565m) (Based on the trailing twelve months to February 2019.)
Therefore, Worthington Industries has an ROCE of 8.0%.
Is Worthington Industries's ROCE Good?
One way to assess ROCE is to compare similar companies. We can see Worthington Industries's ROCE is meaningfully below the Metals and Mining industry average of 11%. This could be seen as a negative, as it suggests some competitors may be employing their capital more efficiently. Separate from how Worthington Industries stacks up against its industry, its ROCE in absolute terms is mediocre; relative to the returns on government bonds. Investors may wish to consider higher-performing investments.
It is important to remember that ROCE shows past performance, and is not necessarily predictive. ROCE can be deceptive for cyclical businesses, as returns can look incredible in boom times, and terribly low in downturns. ROCE is, after all, simply a snap shot of a single year. We note Worthington Industries could be considered a cyclical business. Since the future is so important for investors, you should check out our free report on analyst forecasts for Worthington Industries.
What Are Current Liabilities, And How Do They Affect Worthington Industries's ROCE?
Current liabilities include invoices, such as supplier payments, short-term debt, or a tax bill, that 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.
Worthington Industries has total liabilities of US$565m and total assets of US$2.6b. As a result, its current liabilities are equal to approximately 22% of its total assets. It is good to see a restrained amount of current liabilities, as this limits the effect on ROCE.
Our Take On Worthington Industries's ROCE
With that in mind, we're not overly impressed with Worthington Industries's ROCE, so it may not be the most appealing prospect. Of course you might be able to find a better stock than Worthington Industries. So you may wish to see this free collection of other companies that have grown earnings strongly.
If you like to buy stocks alongside management, then you might just love this free list of companies. (Hint: insiders have been buying them).
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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. Thank you for reading.