In This Article:
Today we'll look at Karelia Tobacco Company Inc. (ATH:KARE) 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.
First, we'll go over how we calculate ROCE. Next, we'll compare it to others in its industry. 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. In general, businesses with a higher ROCE are usually better quality. Ultimately, it is a useful but imperfect metric. Author Edwin Whiting says to be careful when comparing the ROCE of different businesses, since 'No two businesses are exactly alike.
So, How Do We Calculate ROCE?
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 Karelia Tobacco:
0.15 = €72m ÷ (€605m - €123m) (Based on the trailing twelve months to June 2019.)
Therefore, Karelia Tobacco has an ROCE of 15%.
Check out our latest analysis for Karelia Tobacco
Is Karelia Tobacco's ROCE Good?
ROCE is commonly used for comparing the performance of similar businesses. We can see Karelia Tobacco's ROCE is around the 14% average reported by the Tobacco industry. Independently of how Karelia Tobacco compares to its industry, its ROCE in absolute terms appears decent, and the company may be worthy of closer investigation.
Karelia Tobacco's current ROCE of 15% is lower than its ROCE in the past, which was 24%, 3 years ago. So investors might consider if it has had issues recently. The image below shows how Karelia Tobacco's ROCE compares to its industry, and you can click it to see more detail on its past growth.
Remember that this metric is backwards looking - it shows what has happened in the past, and does not accurately predict the future. ROCE can be deceptive for cyclical businesses, as returns can look incredible in boom times, and terribly low in downturns. ROCE is only a point-in-time measure. If Karelia Tobacco is cyclical, it could make sense to check out this free graph of past earnings, revenue and cash flow.
Karelia Tobacco's Current Liabilities And Their Impact On 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 counter this, investors can check if a company has high current liabilities relative to total assets.