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Today we’ll evaluate Singapore Technologies Engineering Ltd (SGX:S63) to determine whether it could have potential as an investment idea. Specifically, we’ll consider its Return On Capital Employed (ROCE), since that will give us an insight into how efficiently the business can generate profits from the capital it requires.
First up, we’ll look at what ROCE is and how we calculate it. Next, we’ll compare it to others in its industry. Then we’ll determine how its current liabilities are affecting 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. 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’.
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 Singapore Technologies Engineering:
0.15 = S$555m ÷ (S$7.3b – S$3.5b) (Based on the trailing twelve months to September 2018.)
So, Singapore Technologies Engineering has an ROCE of 15%.
Does Singapore Technologies Engineering Have A Good ROCE?
ROCE can be useful when making comparisons, such as between similar companies. In our analysis, Singapore Technologies Engineering’s ROCE is meaningfully higher than the 11% average in the Aerospace & Defense industry. I think that’s good to see, since it implies the company is better than other companies at making the most of its capital. Separate from Singapore Technologies Engineering’s performance relative to its industry, its ROCE in absolute terms looks satisfactory, and it may be worth researching in more depth.
In our analysis, Singapore Technologies Engineering’s ROCE appears to be 15%, compared to 3 years ago, when its ROCE was 12%. This makes us wonder if the company is improving.
When considering this metric, keep in mind that it is backwards looking, and 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, after all, simply a snap shot of a single year. Future performance is what matters, and you can see analyst predictions in our free report on analyst forecasts for the company.
What Are Current Liabilities, And How Do They Affect Singapore Technologies Engineering’s 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 check the impact of this, we calculate if a company has high current liabilities relative to its total assets.
Singapore Technologies Engineering has total assets of S$7.3b and current liabilities of S$3.5b. As a result, its current liabilities are equal to approximately 48% of its total assets. With this level of current liabilities, Singapore Technologies Engineering’s ROCE is boosted somewhat.
The Bottom Line On Singapore Technologies Engineering’s ROCE
Singapore Technologies Engineering’s ROCE does look good, but the level of current liabilities also contribute to that. 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.
I will like Singapore Technologies Engineering better if I see some big insider buys. While we wait, check out this free list of growing companies with considerable, recent, insider buying.
To help readers see past the short term volatility of the financial market, we aim to bring you a long-term focused research analysis purely driven by fundamental data. Note that our analysis does not factor in the latest price-sensitive company announcements.
The author is an independent contributor and at the time of publication had no position in the stocks mentioned. For errors that warrant correction please contact the editor at email@example.com.