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Today we’ll evaluate Deckers Outdoor Corporation (NYSE:DECK) to determine whether it could have potential as an investment idea. Specifically, we’ll consider its Return On Capital Employed (ROCE), since that will give us an insight into how efficiently the business can generate profits from the capital it requires.
First up, we’ll look at what ROCE is and how we calculate it. Second, we’ll look at its ROCE compared to similar companies. And finally, we’ll look at how its current liabilities are impacting 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 Deckers Outdoor:
0.26 = US$227m ÷ (US$1.5b – US$394m) (Based on the trailing twelve months to December 2018.)
So, Deckers Outdoor has an ROCE of 26%.
Is Deckers Outdoor’s ROCE Good?
ROCE is commonly used for comparing the performance of similar businesses. In our analysis, Deckers Outdoor’s ROCE is meaningfully higher than the 14% average in the Luxury industry. We would consider this a positive, as it suggests it is using capital more effectively than other similar companies. Setting aside the comparison to its industry for a moment, Deckers Outdoor’s ROCE in absolute terms currently looks quite high.
In our analysis, Deckers Outdoor’s ROCE appears to be 26%, compared to 3 years ago, when its ROCE was 17%. This makes us wonder if the company is improving.
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 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. What happens in the future is pretty important for investors, so we have prepared a free report on analyst forecasts for Deckers Outdoor.
How Deckers Outdoor’s Current Liabilities Impact 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. Due to the way ROCE is calculated, a high level of current liabilities makes a company look as though it has less capital employed, and thus can (sometimes unfairly) boost the ROCE. To counter this, investors can check if a company has high current liabilities relative to total assets.
Deckers Outdoor has total liabilities of US$394m and total assets of US$1.5b. Therefore its current liabilities are equivalent to approximately 26% of its total assets. The fairly low level of current liabilities won’t have much impact on the already great ROCE.
What We Can Learn From Deckers Outdoor’s ROCE
This is good to see, and with such a high ROCE, Deckers Outdoor may be worth a closer look. You might be able to find a better buy than Deckers Outdoor. If you want a selection of possible winners, check out this free list of interesting companies that trade on a P/E below 20 (but have proven they can grow earnings).
If you like to buy stocks alongside management, then you might just love this free list of companies. (Hint: insiders have been buying them).
To help readers see past the short term volatility of the financial market, we aim to bring you a long-term focused research analysis purely driven by fundamental data. Note that our analysis does not factor in the latest price-sensitive company announcements.
The author is an independent contributor and at the time of publication had no position in the stocks mentioned. For errors that warrant correction please contact the editor at firstname.lastname@example.org.