Today we'll look at Lampsa Hellenic Hotels S.A. (ATH:LAMPS) and reflect on its potential as an investment. To be precise, we'll consider its Return On Capital Employed (ROCE), as that will inform our view of the quality of the business.
First up, we'll look at what ROCE is and how we calculate it. Next, we'll compare it to others in its industry. 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. Overall, it is a valuable metric that has its flaws. 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?
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 Lampsa Hellenic Hotels:
0.099 = €13m ÷ (€222m - €91m) (Based on the trailing twelve months to December 2018.)
Therefore, Lampsa Hellenic Hotels has an ROCE of 9.9%.
Does Lampsa Hellenic Hotels Have A Good ROCE?
When making comparisons between similar businesses, investors may find ROCE useful. In our analysis, Lampsa Hellenic Hotels's ROCE is meaningfully higher than the 7.7% average in the Hospitality industry. We would consider this a positive, as it suggests it is using capital more effectively than other similar companies. Setting aside the industry comparison for now, Lampsa Hellenic Hotels's ROCE is mediocre in absolute terms, considering the risk of investing in stocks versus the safety of a bank account. Investors may wish to consider higher-performing investments.
In our analysis, Lampsa Hellenic Hotels's ROCE appears to be 9.9%, compared to 3 years ago, when its ROCE was 5.8%. This makes us think the business might be improving. The image below shows how Lampsa Hellenic Hotels'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 misleading for companies in cyclical industries, with returns looking impressive during the boom times, but very weak during the busts. ROCE is only a point-in-time measure. If Lampsa Hellenic Hotels is cyclical, it could make sense to check out this free graph of past earnings, revenue and cash flow.
Do Lampsa Hellenic Hotels's Current Liabilities Skew 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 the ROCE equation works, having large bills due in the near term can make it look as though a company has less capital employed, and thus a higher ROCE than usual. To counter this, investors can check if a company has high current liabilities relative to total assets.
Lampsa Hellenic Hotels has total assets of €222m and current liabilities of €91m. Therefore its current liabilities are equivalent to approximately 41% of its total assets. Lampsa Hellenic Hotels's middling level of current liabilities have the effect of boosting its ROCE a bit.
What We Can Learn From Lampsa Hellenic Hotels's ROCE
Despite this, its ROCE is still mediocre, and you may find more appealing investments elsewhere. But note: make sure you look for a great company, not just the first idea you come across. So take a peek at this free list of interesting companies with strong recent earnings growth (and a P/E ratio below 20).
If you like to buy stocks alongside management, then you might just love this free list of companies. (Hint: insiders have been buying them).
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.