Aarti Industries Limited (NSE:AARTIIND) Is Employing Capital Very Effectively

Rowena Monahan

Sat, Feb 16, 2019, 7:19 PM

Today we are going to look at Aarti Industries Limited (NSE:AARTIIND) to see whether it might be an attractive investment prospect. 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 of all, we’ll work out how to calculate ROCE. Second, we’ll look at its ROCE compared 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 measures the ‘return’ (pre-tax profit) a company generates from capital employed 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 Aarti Industries:

0.20 = ₹5.5b ÷ (₹43b – ₹16b) (Based on the trailing twelve months to March 2018.)

So, Aarti Industries has an ROCE of 20%.

See our latest analysis for Aarti Industries

Is Aarti Industries’s ROCE Good?

ROCE is commonly used for comparing the performance of similar businesses. Using our data, we find that Aarti Industries’s ROCE is meaningfully better than the 17% average in the Chemicals industry. We would consider this a positive, as it suggests it is using capital more effectively than other similar companies. Regardless of where Aarti Industries sits next to its industry, its ROCE in absolute terms appears satisfactory, and this company could be worth a closer look.

NSEI:AARTIIND Last Perf February 17th 19

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. This is because ROCE only looks at one year, instead of considering returns across a whole cycle. What happens in the future is pretty important for investors, so we have prepared a free report on analyst forecasts for Aarti Industries.