Should You Worry About Citi Trends, Inc.’s (NASDAQ:CTRN) ROCE?
Today we'll evaluate Citi Trends, Inc. (NASDAQ:CTRN) 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.
First of all, we'll work out how to calculate ROCE. Then we'll compare its ROCE to similar companies. 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. In general, businesses with a higher ROCE are usually better quality. Ultimately, it is a useful but imperfect metric. 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?
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 Citi Trends:
0.053 = US$16m ÷ (US$448m - US$140m) (Based on the trailing twelve months to August 2019.)
Therefore, Citi Trends has an ROCE of 5.3%.
View our latest analysis for Citi Trends
Does Citi Trends Have A Good ROCE?
ROCE is commonly used for comparing the performance of similar businesses. Using our data, Citi Trends's ROCE appears to be significantly below the 10% average in the Specialty Retail industry. This performance is not ideal, as it suggests the company may not be deploying its capital as effectively as some competitors. Regardless of how Citi Trends stacks up against its industry, its ROCE in absolute terms is quite low (especially compared to a bank account). It is likely that there are more attractive prospects out there.
Citi Trends's current ROCE of 5.3% is lower than its ROCE in the past, which was 8.7%, 3 years ago. Therefore we wonder if the company is facing new headwinds. The image below shows how Citi Trends's ROCE compares to its industry, and you can click it to see more detail on its past growth.
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. This is because ROCE only looks at one year, instead of considering returns across a whole cycle. If Citi Trends is cyclical, it could make sense to check out this free graph of past earnings, revenue and cash flow.
How Citi Trends's Current Liabilities Impact Its 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 counter this, investors can check if a company has high current liabilities relative to total assets.
Citi Trends has total liabilities of US$140m and total assets of US$448m. As a result, its current liabilities are equal to approximately 31% of its total assets. In light of sufficient current liabilities to noticeably boost the ROCE, Citi Trends's ROCE is concerning.
The Bottom Line On Citi Trends's ROCE
So researching other companies may be a better use of your time. 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).
Citi Trends is not the only stock insiders are buying. So take a peek at this free list of growing companies with 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.
