Today we'll evaluate The Heavitree Brewery PLC (LON:HVTA) 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.

First, we'll go over how we calculate ROCE. Second, we'll look at its ROCE compared to similar companies. And finally, we'll look at how its current liabilities are impacting 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. Generally speaking a higher ROCE is better. Ultimately, it is a useful but imperfect metric. 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?

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 Heavitree Brewery:

0.089 = UK£1.6m ÷ (UK£21m - UK£2.2m) (Based on the trailing twelve months to April 2019.)

So, Heavitree Brewery has an ROCE of 8.9%.

Check out our latest analysis for Heavitree Brewery

Is Heavitree Brewery's ROCE Good?

ROCE is commonly used for comparing the performance of similar businesses. Using our data, Heavitree Brewery's ROCE appears to be around the 7.6% average of the Hospitality industry. Separate from Heavitree Brewery'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 Heavitree Brewery's ROCE compares to its industry. Click to see more on past growth.

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. ROCE is only a point-in-time measure. How cyclical is Heavitree Brewery? You can see for yourself by looking at this free graph of past earnings, revenue and cash flow.

How Heavitree Brewery'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 counteract this, we check if a company has high current liabilities, relative to its total assets.

Heavitree Brewery has total liabilities of UK£2.2m and total assets of UK£21m. As a result, its current liabilities are equal to approximately 11% of its total assets. Low current liabilities are not boosting the ROCE too much.

The Bottom Line On Heavitree Brewery's ROCE

This is good to see, and with a sound ROCE, Heavitree Brewery could be worth a closer look. There might be better investments than Heavitree Brewery 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.

If you like to buy stocks alongside management, then you might just love this free list of companies. (Hint: insiders have been buying them).

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.