Is dotdigital Group Plc’s (LON:DOTD) 26% ROCE Any Good?
Today we'll look at dotdigital Group Plc (LON:DOTD) and reflect on its potential as an investment. 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.
First up, we'll look at what ROCE is and how we calculate it. Second, we'll look at its ROCE compared 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 dotdigital Group:
0.26 = UK£11m ÷ (UK£54m - UK£11m) (Based on the trailing twelve months to June 2019.)
Therefore, dotdigital Group has an ROCE of 26%.
See our latest analysis for dotdigital Group
Does dotdigital Group Have A Good ROCE?
When making comparisons between similar businesses, investors may find ROCE useful. In our analysis, dotdigital Group's ROCE is meaningfully higher than the 9.5% average in the Software industry. We consider this a positive sign, because it suggests it uses capital more efficiently than similar companies. Putting aside its position relative to its industry for now, in absolute terms, dotdigital Group's ROCE is currently very good.
The image below shows how dotdigital Group's ROCE compares to its industry, and you can click it to see more detail on its past growth.
It is important to remember that ROCE shows past performance, and is not necessarily predictive. ROCE can be misleading for companies in cyclical industries, with returns looking impressive during the boom times, but very weak during the busts. ROCE is, after all, simply a snap shot of a single year. Future performance is what matters, and you can see analyst predictions in our free report on analyst forecasts for the company.
How dotdigital Group's Current Liabilities Impact Its ROCE
Current liabilities are short term bills and invoices that need to be paid in 12 months or less. 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 check the impact of this, we calculate if a company has high current liabilities relative to its total assets.
dotdigital Group has total assets of UK£54m and current liabilities of UK£11m. Therefore its current liabilities are equivalent to approximately 21% of its total assets. This is quite a low level of current liabilities which would not greatly boost the already high ROCE.
What We Can Learn From dotdigital Group's ROCE
Low current liabilities and high ROCE is a good combination, making dotdigital Group look quite interesting. There might be better investments than dotdigital Group out there, but you will have to work hard to find them . These promising businesses with rapidly growing earnings might be right up your alley.
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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 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.
