Today we are going to look at Fortive Corporation (NYSE:FTV) to see whether it might be an attractive investment prospect. 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.
Return On Capital Employed (ROCE): What is it?
ROCE is a metric for evaluating how much pre-tax income (in percentage terms) a company earns on the capital invested in its business. Generally speaking a higher ROCE is better. Overall, it is a valuable metric that has its flaws. 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 Fortive:
0.08 = US$1.1b ÷ (US$17b - US$2.9b) (Based on the trailing twelve months to September 2019.)
So, Fortive has an ROCE of 8.0%.
Does Fortive Have A Good ROCE?
ROCE can be useful when making comparisons, such as between similar companies. Using our data, Fortive's ROCE appears to be significantly below the 12% average in the Machinery industry. This could be seen as a negative, as it suggests some competitors may be employing their capital more efficiently. Separate from how Fortive 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.
Fortive's current ROCE of 8.0% is lower than its ROCE in the past, which was 19%, 3 years ago. So investors might consider if it has had issues recently. You can click on the image below to see (in greater detail) how Fortive's past growth compares to other companies.
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 only a point-in-time measure. Since the future is so important for investors, you should check out our free report on analyst forecasts for Fortive.
How Fortive's Current Liabilities Impact Its ROCE
Short term (or current) liabilities, are things like supplier invoices, overdrafts, or tax bills that 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 check the impact of this, we calculate if a company has high current liabilities relative to its total assets.
Fortive has total assets of US$17b and current liabilities of US$2.9b. Therefore its current liabilities are equivalent to approximately 18% of its total assets. This is a modest level of current liabilities, which would only have a small effect on ROCE.
What We Can Learn From Fortive's ROCE
With that in mind, we're not overly impressed with Fortive's ROCE, so it may not be the most appealing prospect. You might be able to find a better investment than Fortive. 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).
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 firstname.lastname@example.org. 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.