What Does Linc Pen & Plastics Limited’s (NSE:LINCPENQ) 13% ROCE Say About The Business?
Today we'll look at Linc Pen & Plastics Limited (NSE:LINCPENQ) and reflect on its potential as an investment. Specifically, we'll consider its Return On Capital Employed (ROCE), since that will give us an insight into how efficiently the business can generate profits from the capital it requires.
First of all, we'll work out how to calculate ROCE. Then we'll compare its ROCE to similar companies. And finally, we'll look at how its current liabilities are impacting its ROCE.
Return On Capital Employed (ROCE): What is it?
ROCE is a measure of a company's yearly pre-tax profit (its return), relative to the capital employed in the 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?
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 Linc Pen & Plastics:
0.13 = ₹191m ÷ (₹2.3b - ₹814m) (Based on the trailing twelve months to June 2019.)
Therefore, Linc Pen & Plastics has an ROCE of 13%.
View our latest analysis for Linc Pen & Plastics
Is Linc Pen & Plastics's ROCE Good?
One way to assess ROCE is to compare similar companies. It appears that Linc Pen & Plastics's ROCE is fairly close to the Commercial Services industry average of 12%. Separate from how Linc Pen & Plastics stacks up against its industry, its ROCE in absolute terms is mediocre; relative to the returns on government bonds. It is possible that there are more rewarding investments out there.
We can see that, Linc Pen & Plastics currently has an ROCE of 13%, less than the 25% it reported 3 years ago. This makes us wonder if the business is facing new challenges. You can see in the image below how Linc Pen & Plastics's ROCE compares to its industry. Click to see more on past growth.
When considering this metric, keep in mind that it is backwards looking, and not necessarily predictive. ROCE can be deceptive for cyclical businesses, as returns can look incredible in boom times, and terribly low in downturns. This is because ROCE only looks at one year, instead of considering returns across a whole cycle. You can check if Linc Pen & Plastics has cyclical profits by looking at this free graph of past earnings, revenue and cash flow.
Linc Pen & Plastics's Current Liabilities And Their Impact On 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. 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.
Linc Pen & Plastics has total liabilities of ₹814m and total assets of ₹2.3b. Therefore its current liabilities are equivalent to approximately 35% of its total assets. Linc Pen & Plastics has a medium level of current liabilities, which would boost its ROCE somewhat.
What We Can Learn From Linc Pen & Plastics's ROCE
Despite this, its ROCE is still mediocre, and you may find more appealing investments elsewhere. Of course, you might also be able to find a better stock than Linc Pen & Plastics. 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 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.
