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Why We Like Herbalife Nutrition Ltd.’s (NYSE:HLF) 37% Return On Capital Employed

Simply Wall St

Today we'll evaluate Herbalife Nutrition Ltd. (NYSE:HLF) 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 of all, we'll work out how to calculate ROCE. 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 amount of pre-tax profits a company can generate from the 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 Herbalife Nutrition:

0.37 = US$602m ÷ (US$2.5b - US$921m) (Based on the trailing twelve months to September 2019.)

So, Herbalife Nutrition has an ROCE of 37%.

Check out our latest analysis for Herbalife Nutrition

Does Herbalife Nutrition Have A Good ROCE?

ROCE can be useful when making comparisons, such as between similar companies. Using our data, we find that Herbalife Nutrition's ROCE is meaningfully better than the 24% average in the Personal Products industry. We consider this a positive sign, because it suggests it uses capital more efficiently than similar companies. Regardless of the industry comparison, in absolute terms, Herbalife Nutrition's ROCE currently appears to be excellent.

You can click on the image below to see (in greater detail) how Herbalife Nutrition's past growth compares to other companies.

NYSE:HLF Past Revenue and Net Income, January 1st 2020

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. This is because ROCE only looks at one year, instead of considering returns across a whole cycle. Future performance is what matters, and you can see analyst predictions in our free report on analyst forecasts for the company.

Herbalife Nutrition's Current Liabilities And Their Impact On 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. 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 check the impact of this, we calculate if a company has high current liabilities relative to its total assets.

Herbalife Nutrition has total liabilities of US$921m and total assets of US$2.5b. As a result, its current liabilities are equal to approximately 36% of its total assets. Herbalife Nutrition's ROCE is boosted somewhat by its middling amount of current liabilities.

What We Can Learn From Herbalife Nutrition's ROCE

Despite this, it reports a high ROCE, and may be worth investigating further. There might be better investments than Herbalife Nutrition out there, but you will have to work hard to find them . These promising businesses with rapidly growing earnings might be right up your alley.

I will like Herbalife Nutrition 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.