Why You Should Like West Fraser Timber Co. Ltd.’s (TSE:WFT) ROCE
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 look at West Fraser Timber Co. Ltd. (TSE:WFT) and reflect on its potential as an investment. To be precise, we'll consider its Return On Capital Employed (ROCE), as that will inform our view of the quality of the business.
First of all, we'll work out how to 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 measures the 'return' (pre-tax profit) a company generates from capital employed in its business. In general, businesses with a higher ROCE are usually better quality. 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'.
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 West Fraser Timber:
0.20 = CA$817m ÷ (CA$5.0b - CA$844m) (Based on the trailing twelve months to March 2019.)
So, West Fraser Timber has an ROCE of 20%.
Check out our latest analysis for West Fraser Timber
Does West Fraser Timber Have A Good ROCE?
ROCE can be useful when making comparisons, such as between similar companies. Using our data, we find that West Fraser Timber's ROCE is meaningfully better than the 10% average in the Forestry industry. We would consider this a positive, as it suggests it is using capital more effectively than other similar companies. Separate from West Fraser Timber's performance relative to its industry, its ROCE in absolute terms looks satisfactory, and it may be worth researching in more depth.
As we can see, West Fraser Timber currently has an ROCE of 20% compared to its ROCE 3 years ago, which was 6.6%. This makes us think the business might be improving.
Remember that this metric is backwards looking - it shows what has happened in the past, and does not accurately predict the future. 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 only a point-in-time measure. Since the future is so important for investors, you should check out our free report on analyst forecasts for West Fraser Timber.
What Are Current Liabilities, And How Do They Affect West Fraser Timber's ROCE?
Liabilities, such as supplier bills and bank overdrafts, are referred to as current liabilities if they need to be paid within 12 months. Due to the way ROCE is calculated, a high level of current liabilities makes a company look as though it has less capital employed, and thus can (sometimes unfairly) boost the ROCE. To check the impact of this, we calculate if a company has high current liabilities relative to its total assets.
West Fraser Timber has total liabilities of CA$844m and total assets of CA$5.0b. As a result, its current liabilities are equal to approximately 17% of its total assets. Low current liabilities are not boosting the ROCE too much.
The Bottom Line On West Fraser Timber's ROCE
Overall, West Fraser Timber has a decent ROCE and could be worthy of further research. There might be better investments than West Fraser Timber out there, but you will have to work hard to find them . These promising businesses with rapidly growing earnings might be right up your alley.
I will like West Fraser Timber better if I see some big insider buys. While we wait, check out this free list of growing companies with considerable, recent, insider 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.
