Yahoo Finance Synlait Milk Limited (NZSE:SML) Is Employing Capital Very Effectively
Today we'll evaluate Synlait Milk Limited (NZSE:SML) to determine whether it could have potential as an investment idea. Specifically, we'll consider its Return On Capital Employed (ROCE), since that will give us an insight into how efficiently the business can generate profits from the capital it requires.
First up, we'll look at what ROCE is and how we calculate it. Then we'll compare its ROCE to similar companies. Last but not least, we'll look at what impact its current liabilities have on its ROCE.
Understanding Return On Capital Employed (ROCE)
ROCE is a metric for evaluating how much pre-tax income (in percentage terms) a company earns on the capital invested in its business. Generally speaking a higher ROCE is better. 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'.
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 Synlait Milk:
0.16 = NZ$124m ÷ (NZ$1.1b - NZ$373m) (Based on the trailing twelve months to July 2019.)
Therefore, Synlait Milk has an ROCE of 16%.
Check out our latest analysis for Synlait Milk
Does Synlait Milk Have A Good ROCE?
When making comparisons between similar businesses, investors may find ROCE useful. Using our data, we find that Synlait Milk's ROCE is meaningfully better than the 8.0% average in the Food industry. We consider this a positive sign, because it suggests it uses capital more efficiently than similar companies. Independently of how Synlait Milk compares to its industry, its ROCE in absolute terms appears decent, and the company may be worthy of closer investigation.
You can see in the image below how Synlait Milk'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 Synlait Milk.
How Synlait Milk'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 counteract this, we check if a company has high current liabilities, relative to its total assets.
Synlait Milk has total liabilities of NZ$373m and total assets of NZ$1.1b. As a result, its current liabilities are equal to approximately 32% of its total assets. Synlait Milk has a middling amount of current liabilities, increasing its ROCE somewhat.
The Bottom Line On Synlait Milk's ROCE
With a decent ROCE, the company could be interesting, but remember that the level of current liabilities make the ROCE look better. Synlait Milk 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.
