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Should You Worry About Grifal S.p.A.’s (BIT:GRAL) ROCE?

Simply Wall St

Today we are going to look at Grifal S.p.A. (BIT:GRAL) to see whether it might be an attractive investment prospect. 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 up, we'll look at what ROCE is and how we calculate it. Next, we'll compare it to others in its industry. Finally, we'll look at how its current liabilities affect its ROCE.

What is Return On Capital Employed (ROCE)?

ROCE is a metric for evaluating how much pre-tax income (in percentage terms) a company earns on the capital invested in its business. All else being equal, a better business will have a higher ROCE. Overall, it is a valuable metric that has its flaws. 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 Grifal:

0.073 = €1.1m ÷ (€24m - €9.2m) (Based on the trailing twelve months to June 2019.)

So, Grifal has an ROCE of 7.3%.

View our latest analysis for Grifal

Does Grifal Have A Good ROCE?

When making comparisons between similar businesses, investors may find ROCE useful. Using our data, Grifal's ROCE appears to be significantly below the 11% average in the Packaging industry. This performance is not ideal, as it suggests the company may not be deploying its capital as effectively as some competitors. Separate from how Grifal stacks up against its industry, its ROCE in absolute terms is mediocre; relative to the returns on government bonds. Investors may wish to consider higher-performing investments.

You can see in the image below how Grifal's ROCE compares to its industry. Click to see more on past growth.

BIT:GRAL Past Revenue and Net Income, January 1st 2020

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. Since the future is so important for investors, you should check out our free report on analyst forecasts for Grifal.

Grifal's Current Liabilities And Their Impact On Its 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 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.

Grifal has total assets of €24m and current liabilities of €9.2m. Therefore its current liabilities are equivalent to approximately 39% of its total assets. Grifal has a medium level of current liabilities, which would boost its ROCE somewhat.

The Bottom Line On Grifal's ROCE

Unfortunately, its ROCE is still uninspiring, and there are potentially more attractive prospects out there. You might be able to find a better investment than Grifal. If you want a selection of possible winners, check out this free list of interesting companies that trade on a P/E below 20 (but have proven they can grow earnings).

For those who like to find winning investments this free list of growing companies with recent insider purchasing, could be just the ticket.

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.

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. Thank you for reading.