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Why We Like Crown Crafts, Inc.’s (NASDAQ:CRWS) 18% Return On Capital Employed

Simply Wall St

Today we'll look at Crown Crafts, Inc. (NASDAQ:CRWS) 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. Finally, we'll look at how its current liabilities affect its ROCE.

Understanding Return On Capital Employed (ROCE)

ROCE measures the 'return' (pre-tax profit) a company generates from capital employed in its business. Generally speaking a higher ROCE is better. 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?

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 Crown Crafts:

0.18 = US$7.9m ÷ (US$54m - US$9.7m) (Based on the trailing twelve months to September 2019.)

So, Crown Crafts has an ROCE of 18%.

Check out our latest analysis for Crown Crafts

Is Crown Crafts's ROCE Good?

ROCE is commonly used for comparing the performance of similar businesses. In our analysis, Crown Crafts's ROCE is meaningfully higher than the 11% average in the Luxury industry. I think that's good to see, since it implies the company is better than other companies at making the most of its capital. Regardless of where Crown Crafts sits next to its industry, its ROCE in absolute terms appears satisfactory, and this company could be worth a closer look.

Crown Crafts's current ROCE of 18% is lower than its ROCE in the past, which was 25%, 3 years ago. So investors might consider if it has had issues recently. The image below shows how Crown Crafts's ROCE compares to its industry, and you can click it to see more detail on its past growth.

NasdaqCM:CRWS Past Revenue and Net Income, January 10th 2020

Remember that this metric is backwards looking - it shows what has happened in the past, and does not accurately 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. What happens in the future is pretty important for investors, so we have prepared a free report on analyst forecasts for Crown Crafts.

Crown Crafts's Current Liabilities And Their Impact On Its 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.

Crown Crafts has total assets of US$54m and current liabilities of US$9.7m. As a result, its current liabilities are equal to approximately 18% of its total assets. Low current liabilities are not boosting the ROCE too much.

What We Can Learn From Crown Crafts's ROCE

Overall, Crown Crafts has a decent ROCE and could be worthy of further research. Crown Crafts looks strong on this analysis, but there are plenty of other companies that could be a good opportunity . Here is a free list of companies growing earnings rapidly.

I will like Crown Crafts better if I see some big insider buys. While we wait, check out this free list of growing companies with considerable, recent, insider buying.

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.

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. Thank you for reading.