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Today we'll evaluate Xcel Brands, Inc. (NASDAQ:XELB) to determine whether it could have potential as an investment idea. In particular, we'll consider its Return On Capital Employed (ROCE), as that can give us insight into how profitably the company is able to employ capital in its 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.
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. Generally speaking a higher ROCE is better. 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.'
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 Xcel Brands:
0.03 = US$4.2m ÷ (US$152m - US$14m) (Based on the trailing twelve months to March 2019.)
So, Xcel Brands has an ROCE of 3.0%.
Is Xcel Brands's ROCE Good?
ROCE is commonly used for comparing the performance of similar businesses. In this analysis, Xcel Brands's ROCE appears meaningfully below the 8.5% average reported by the Media industry. This could be seen as a negative, as it suggests some competitors may be employing their capital more efficiently. Putting aside Xcel Brands's performance relative to its industry, its ROCE in absolute terms is poor - considering the risk of owning stocks compared to government bonds. Readers may wish to look for more rewarding investments.
Our data shows that Xcel Brands currently has an ROCE of 3.0%, compared to its ROCE of 1.9% 3 years ago. This makes us think about whether the company has been reinvesting shrewdly.
When considering ROCE, bear in mind that it reflects the past and does not necessarily 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. What happens in the future is pretty important for investors, so we have prepared a free report on analyst forecasts for Xcel Brands.
Do Xcel Brands's Current Liabilities Skew Its 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.
Xcel Brands has total liabilities of US$14m and total assets of US$152m. As a result, its current liabilities are equal to approximately 9.3% of its total assets. Xcel Brands has a low level of current liabilities, which have a negligible impact on its already low ROCE.
What We Can Learn From Xcel Brands's ROCE
Nevertheless, there are potentially more attractive companies to invest in. Of course, you might also be able to find a better stock than Xcel Brands. 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 firstname.lastname@example.org. 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.