Today we'll look at Motorola Solutions, Inc. (NYSE:MSI) and reflect on its potential as an investment. To be precise, we'll consider its Return On Capital Employed (ROCE), as that will inform our view of the quality of the business.
Firstly, we'll go over how we calculate ROCE. Then we'll compare its ROCE to similar companies. Then we'll determine how its current liabilities are affecting its ROCE.
Return On Capital Employed (ROCE): What is it?
ROCE measures the amount of pre-tax profits a company can generate from the capital employed in its business. Generally speaking a higher ROCE is better. In brief, it is a useful tool, but it is not without drawbacks. 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'.
How Do You Calculate Return On Capital Employed?
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 Motorola Solutions:
0.18 = US$1.3b ÷ (US$11b - US$3.4b) (Based on the trailing twelve months to December 2019.)
Therefore, Motorola Solutions has an ROCE of 18%.
Does Motorola Solutions Have A Good ROCE?
One way to assess ROCE is to compare similar companies. In our analysis, Motorola Solutions's ROCE is meaningfully higher than the 6.1% average in the Communications industry. We would consider this a positive, as it suggests it is using capital more effectively than other similar companies. Separate from Motorola Solutions'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 Motorola Solutions's ROCE compares to its industry. Click to see more on past growth.
Remember that this metric is backwards looking - it shows what has happened in the past, and does not accurately 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, after all, simply a snap shot of a single year. What happens in the future is pretty important for investors, so we have prepared a free report on analyst forecasts for Motorola Solutions.
How Motorola Solutions'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. 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.
Motorola Solutions has current liabilities of US$3.4b and total assets of US$11b. As a result, its current liabilities are equal to approximately 32% of its total assets. Motorola Solutions has a medium level of current liabilities, which would boost the ROCE.
The Bottom Line On Motorola Solutions's ROCE
While its ROCE looks good, it's worth remembering that the current liabilities are making the business look better. Motorola Solutions 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.
I will like Motorola Solutions better if I see some big insider buys. While we wait, check out this free list of growing companies with considerable, recent, insider buying.
If you spot an error that warrants correction, please contact the editor at firstname.lastname@example.org. 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.
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