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Today we'll evaluate New Zealand King Salmon Investments Limited (NZSE:NZK) to determine whether it could have potential as an investment idea. Specifically, we're going to calculate its Return On Capital Employed (ROCE), in the hopes of getting some insight into the business.
Firstly, we'll go over how we 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 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. 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'.
How Do You Calculate Return On Capital Employed?
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 New Zealand King Salmon Investments:
0.11 = NZ$23m ÷ (NZ$244m - NZ$35m) (Based on the trailing twelve months to December 2018.)
So, New Zealand King Salmon Investments has an ROCE of 11%.
Is New Zealand King Salmon Investments's ROCE Good?
One way to assess ROCE is to compare similar companies. New Zealand King Salmon Investments's ROCE appears to be substantially greater than the 8.4% average in the Food industry. We would consider this a positive, as it suggests it is using capital more effectively than other similar companies. Separate from New Zealand King Salmon Investments's performance relative to its industry, its ROCE in absolute terms looks satisfactory, and it may be worth researching in more depth.
You can see in the image below how New Zealand King Salmon Investments's ROCE compares to its industry. Click to see more on 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. What happens in the future is pretty important for investors, so we have prepared a free report on analyst forecasts for New Zealand King Salmon Investments.
New Zealand King Salmon Investments'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. 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.
New Zealand King Salmon Investments has total assets of NZ$244m and current liabilities of NZ$35m. Therefore its current liabilities are equivalent to approximately 14% of its total assets. Current liabilities are minimal, limiting the impact on ROCE.
The Bottom Line On New Zealand King Salmon Investments's ROCE
With that in mind, New Zealand King Salmon Investments's ROCE appears pretty good. New Zealand King Salmon Investments looks strong on this analysis, but there are plenty of other companies that could be a good opportunity . Here is a free list of companies growing earnings rapidly.
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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 email@example.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.