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Today we'll look at PetIQ, Inc. (NASDAQ:PETQ) 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. Next, we'll compare it to others in its industry. Finally, we'll look at how its current liabilities affect its ROCE.
Understanding 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 PetIQ:
0.04 = US$18m ÷ (US$535m - US$82m) (Based on the trailing twelve months to March 2019.)
Therefore, PetIQ has an ROCE of 4.0%.
Is PetIQ's ROCE Good?
When making comparisons between similar businesses, investors may find ROCE useful. Using our data, PetIQ's ROCE appears to be significantly below the 12% average in the Healthcare industry. This could be seen as a negative, as it suggests some competitors may be employing their capital more efficiently. Putting aside PetIQ's performance relative to its industry, its ROCE in absolute terms is poor - considering the risk of owning stocks compared to government bonds. There are potentially more appealing investments elsewhere.
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. ROCE is, after all, simply a snap shot of a single year. Since the future is so important for investors, you should check out our free report on analyst forecasts for PetIQ.
What Are Current Liabilities, And How Do They Affect PetIQ's ROCE?
Current liabilities are short term bills and invoices that need to be paid in 12 months or less. 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.
PetIQ has total assets of US$535m and current liabilities of US$82m. As a result, its current liabilities are equal to approximately 15% of its total assets. This is a modest level of current liabilities, which will have a limited impact on the ROCE.
Our Take On PetIQ's ROCE
PetIQ has a poor ROCE, and there may be better investment prospects out there. Of course, you might also be able to find a better stock than PetIQ. So you may wish to see this free collection of other companies that have grown earnings strongly.
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 email@example.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.