Is New Wave Group AB (publ) (STO:NEWA B) Struggling With Its 8.0% Return On Capital Employed?

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Today we'll look at New Wave Group AB (publ) (STO:NEWA B) 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. Finally, we'll look at how its current liabilities affect its ROCE.

Understanding 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. All else being equal, a better business will have a higher ROCE. Overall, it is a valuable metric that has its flaws. 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 New Wave Group:

0.08 = kr496m ÷ (kr7.7b - kr1.6b) (Based on the trailing twelve months to March 2019.)

So, New Wave Group has an ROCE of 8.0%.

Check out our latest analysis for New Wave Group

Is New Wave Group's ROCE Good?

ROCE can be useful when making comparisons, such as between similar companies. Using our data, New Wave Group's ROCE appears to be significantly below the 11% average in the Luxury industry. This could be seen as a negative, as it suggests some competitors may be employing their capital more efficiently. Setting aside the industry comparison for now, New Wave Group's ROCE is mediocre in absolute terms, considering the risk of investing in stocks versus the safety of a bank account. It is possible that there are more rewarding investments out there.

We can see that , New Wave Group currently has an ROCE of 8.0% compared to its ROCE 3 years ago, which was 4.9%. This makes us think the business might be improving. The image below shows how New Wave Group's ROCE compares to its industry, and you can click it to see more detail on its past growth.

OM:NEWA B Past Revenue and Net Income, July 12th 2019

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. Since the future is so important for investors, you should check out our free report on analyst forecasts for New Wave Group.

How New Wave Group's Current Liabilities Impact 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 check the impact of this, we calculate if a company has high current liabilities relative to its total assets.

New Wave Group has total liabilities of kr1.6b and total assets of kr7.7b. Therefore its current liabilities are equivalent to approximately 20% of its total assets. It is good to see a restrained amount of current liabilities, as this limits the effect on ROCE.

Our Take On New Wave Group's ROCE

That said, New Wave Group's ROCE is mediocre, there may be more attractive investments around. But note: make sure you look for a great company, not just the first idea you come across. So take a peek at this free list of interesting companies with strong recent earnings growth (and a P/E ratio below 20).

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.