Are Kritika Wires Limited’s (NSE:KRITIKA) High Returns Really That Great?
Today we'll look at Kritika Wires Limited (NSE:KRITIKA) 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.
Firstly, we'll go over how we calculate ROCE. Next, we'll compare it to others in its industry. And finally, we'll look at how its current liabilities are impacting its ROCE.
What is Return On Capital Employed (ROCE)?
ROCE measures the 'return' (pre-tax profit) a company generates from capital employed 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'.
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 Kritika Wires:
0.21 = ₹140m ÷ (₹1.4b - ₹776m) (Based on the trailing twelve months to March 2019.)
So, Kritika Wires has an ROCE of 21%.
Check out our latest analysis for Kritika Wires
Is Kritika Wires's ROCE Good?
ROCE is commonly used for comparing the performance of similar businesses. In our analysis, Kritika Wires's ROCE is meaningfully higher than the 14% average in the Metals and Mining industry. I think that's good to see, since it implies the company is better than other companies at making the most of its capital. Separate from Kritika Wires's performance relative to its industry, its ROCE in absolute terms looks satisfactory, and it may be worth researching in more depth.
You can click on the image below to see (in greater detail) how Kritika Wires's past growth compares to other companies.
When considering ROCE, bear in mind that it reflects the past and does not necessarily predict the future. 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 only a point-in-time measure. Given the industry it operates in, Kritika Wires could be considered cyclical. How cyclical is Kritika Wires? You can see for yourself by looking at this free graph of past earnings, revenue and cash flow.
Kritika Wires's Current Liabilities And Their Impact On Its ROCE
Current liabilities are short term bills and invoices that need to be paid in 12 months or less. Due to the way ROCE is calculated, a high level of current liabilities makes a company look as though it has less capital employed, and thus can (sometimes unfairly) boost the ROCE. To check the impact of this, we calculate if a company has high current liabilities relative to its total assets.
Kritika Wires has total liabilities of ₹776m and total assets of ₹1.4b. As a result, its current liabilities are equal to approximately 54% of its total assets. This is admittedly a high level of current liabilities, improving ROCE substantially.
What We Can Learn From Kritika Wires's ROCE
This ROCE is pretty good, but remember that it would look less impressive with fewer current liabilities. Kritika Wires shapes up well under this analysis, but it is far from the only business delivering excellent numbers . You might also want to check this free collection of companies delivering excellent earnings growth.
For those who like to find winning investments this free list of growing companies with recent insider purchasing, could be just the ticket.
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.
