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Why We’re Not Keen On Willdan Group, Inc.’s (NASDAQ:WLDN) 4.5% Return On Capital

Simply Wall St

Today we'll evaluate Willdan Group, Inc. (NASDAQ:WLDN) to determine whether it could have potential as an investment idea. To be precise, we'll consider its Return On Capital Employed (ROCE), as that will inform our view of the quality of the business.

Firstly, we'll go over how we calculate ROCE. Next, we'll compare it to others in its industry. And finally, we'll look at how its current liabilities are impacting its ROCE.

Return On Capital Employed (ROCE): What is it?

ROCE is a measure of a company's yearly pre-tax profit (its return), relative to the capital employed in the business. All else being equal, a better business will have a higher ROCE. 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'.

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 Willdan Group:

0.045 = US$11m ÷ (US$341m - US$93m) (Based on the trailing twelve months to June 2019.)

Therefore, Willdan Group has an ROCE of 4.5%.

Check out our latest analysis for Willdan Group

Is Willdan Group's ROCE Good?

One way to assess ROCE is to compare similar companies. We can see Willdan Group's ROCE is meaningfully below the Professional Services industry average of 12%. This could be seen as a negative, as it suggests some competitors may be employing their capital more efficiently. Independently of how Willdan Group compares to its industry, its ROCE in absolute terms is low; especially compared to the ~2.7% available in government bonds. Readers may wish to look for more rewarding investments.

We can see that, Willdan Group currently has an ROCE of 4.5%, less than the 17% it reported 3 years ago. Therefore we wonder if the company is facing new headwinds. The image below shows how Willdan Group's ROCE compares to its industry, and you can click it to see more detail on its past growth.

NasdaqGM:WLDN Past Revenue and Net Income, October 4th 2019

It is important to remember that ROCE shows past performance, and is not necessarily predictive. ROCE can be deceptive for cyclical businesses, as returns can look incredible in boom times, and terribly low in downturns. ROCE is only a point-in-time measure. What happens in the future is pretty important for investors, so we have prepared a free report on analyst forecasts for Willdan Group.

Willdan Group's Current Liabilities And Their Impact On 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.

Willdan Group has total liabilities of US$93m and total assets of US$341m. As a result, its current liabilities are equal to approximately 27% of its total assets. This is not a high level of current liabilities, which would not boost the ROCE by much.

What We Can Learn From Willdan Group's ROCE

That's not a bad thing, however Willdan Group has a weak ROCE and may not be an attractive investment. Of course, you might find a fantastic investment by looking at a few good candidates. So take a peek at this free list of companies with modest (or no) debt, trading on a P/E 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.