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Here’s why Marvel Decor Limited’s (NSE:MDL) Returns On Capital Matters So Much

Simply Wall St

Today we are going to look at Marvel Decor Limited (NSE:MDL) 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 of all, we'll work out how to calculate ROCE. Second, we'll look at its ROCE compared to similar companies. Last but not least, we'll look at what impact its current liabilities have on its ROCE.

Understanding Return On Capital Employed (ROCE)

ROCE is a metric for evaluating how much pre-tax income (in percentage terms) a company earns on the capital invested in its business. In general, businesses with a higher ROCE are usually better quality. 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?

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 Marvel Decor:

0.12 = ₹54m ÷ (₹587m - ₹129m) (Based on the trailing twelve months to March 2019.)

Therefore, Marvel Decor has an ROCE of 12%.

Check out our latest analysis for Marvel Decor

Is Marvel Decor's ROCE Good?

ROCE is commonly used for comparing the performance of similar businesses. Using our data, Marvel Decor's ROCE appears to be significantly below the 15% average in the Consumer Durables industry. This performance could be negative if sustained, as it suggests the business may underperform its industry. Setting aside the industry comparison for now, Marvel Decor'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.

The image below shows how Marvel Decor's ROCE compares to its industry, and you can click it to see more detail on its past growth.

NSEI:MDL Past Revenue and Net Income, July 27th 2019

When considering this metric, keep in mind that it is backwards looking, and 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, after all, simply a snap shot of a single year. You can check if Marvel Decor has cyclical profits by looking at this free graph of past earnings, revenue and cash flow.

Do Marvel Decor's Current Liabilities Skew Its ROCE?

Current liabilities include invoices, such as supplier payments, short-term debt, or a tax bill, that 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 counteract this, we check if a company has high current liabilities, relative to its total assets.

Marvel Decor has total liabilities of ₹129m and total assets of ₹587m. Therefore its current liabilities are equivalent to approximately 22% 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 Marvel Decor's ROCE

With that in mind, we're not overly impressed with Marvel Decor's ROCE, so it may not be the most appealing prospect. You might be able to find a better investment than Marvel Decor. 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 are like me, then you will not want to miss this free list of growing companies that insiders are buying.

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 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. Thank you for reading.