Today we'll look at HNI Corporation (NYSE:HNI) 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.
Firstly, we'll go over how we calculate ROCE. 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.
What is Return On Capital Employed (ROCE)?
ROCE is a measure of a company's yearly pre-tax profit (its return), relative to the capital employed in the business. Generally speaking a higher ROCE is better. 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.
So, How Do We Calculate ROCE?
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 HNI:
0.15 = US$148m ÷ (US$1.5b - US$459m) (Based on the trailing twelve months to September 2019.)
So, HNI has an ROCE of 15%.
Does HNI Have A Good ROCE?
One way to assess ROCE is to compare similar companies. Using our data, we find that HNI's ROCE is meaningfully better than the 11% average in the Commercial Services 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 HNI sits next to its industry, its ROCE in absolute terms appears satisfactory, and this company could be worth a closer look.
HNI's current ROCE of 15% is lower than 3 years ago, when the company reported a 21% ROCE. So investors might consider if it has had issues recently. The image below shows how HNI's ROCE compares to its industry, and you can click it to see more detail on its past growth.
When considering ROCE, bear in mind that it reflects the past and does not necessarily predict the future. ROCE can be deceptive for cyclical businesses, as returns can look incredible in boom times, and terribly low in downturns. 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 HNI.
What Are Current Liabilities, And How Do They Affect HNI's 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 counteract this, we check if a company has high current liabilities, relative to its total assets.
HNI has total assets of US$1.5b and current liabilities of US$459m. Therefore its current liabilities are equivalent to approximately 31% of its total assets. HNI has a medium level of current liabilities, which would boost the ROCE.
Our Take On HNI's ROCE
HNI's ROCE does look good, but the level of current liabilities also contribute to that. HNI 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 HNI better if I see some big insider buys. While we wait, check out this free list of growing companies with considerable, recent, insider buying.
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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.