Why Nexa Resources S.A.’s (NYSE:NEXA) Return On Capital Employed Might Be A Concern
Want to participate in a short research study? Help shape the future of investing tools and you could win a $250 gift card!
Today we'll evaluate Nexa Resources S.A. (NYSE:NEXA) 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. Next, we'll compare it to others in its industry. Then we'll determine how its current liabilities are affecting 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. 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. 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 Nexa Resources:
0.052 = US$256m ÷ (US$5.6b - US$636m) (Based on the trailing twelve months to March 2019.)
Therefore, Nexa Resources has an ROCE of 5.2%.
View our latest analysis for Nexa Resources
Does Nexa Resources Have A Good ROCE?
ROCE is commonly used for comparing the performance of similar businesses. Using our data, Nexa Resources's ROCE appears to be significantly below the 11% average in the Metals and Mining industry. This could be seen as a negative, as it suggests some competitors may be employing their capital more efficiently. Independently of how Nexa Resources compares to its industry, its ROCE in absolute terms is low; especially compared to the ~2.7% available in government bonds. There are potentially more appealing investments elsewhere.
As we can see, Nexa Resources currently has an ROCE of 5.2% compared to its ROCE 3 years ago, which was 3.3%. This makes us think about whether the company has been reinvesting shrewdly.
Remember that this metric is backwards looking - it shows what has happened in the past, and does not accurately 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. This is because ROCE only looks at one year, instead of considering returns across a whole cycle. Given the industry it operates in, Nexa Resources could be considered cyclical. Since the future is so important for investors, you should check out our free report on analyst forecasts for Nexa Resources.
Do Nexa Resources's Current Liabilities Skew Its 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.
Nexa Resources has total liabilities of US$636m and total assets of US$5.6b. As a result, its current liabilities are equal to approximately 11% of its total assets. This is not a high level of current liabilities, which would not boost the ROCE by much.
Our Take On Nexa Resources's ROCE
While that is good to see, Nexa Resources has a low ROCE and does not look attractive in this analysis. 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 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.
