In This Article:
Today we are going to look at Precision Camshafts Limited (NSE:PRECAM) to see whether it might be an attractive investment prospect. Specifically, we’re going to calculate its Return On Capital Employed (ROCE), in the hopes of getting some insight into the business.
First of all, we’ll work out how to calculate ROCE. Then we’ll compare its ROCE to similar companies. Finally, we’ll look at how its current liabilities affect its ROCE.
Return On Capital Employed (ROCE): What is it?
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. 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?
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 Precision Camshafts:
0.051 = ₹356m ÷ (₹8.7b – ₹1.8b) (Based on the trailing twelve months to March 2018.)
Therefore, Precision Camshafts has an ROCE of 5.1%.
See our latest analysis for Precision Camshafts
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Is Precision Camshafts’s ROCE Good?
ROCE is commonly used for comparing the performance of similar businesses. In this analysis, Precision Camshafts’s ROCE appears meaningfully below the 17% average reported by the Auto Components industry. This could be seen as a negative, as it suggests some competitors may be employing their capital more efficiently. Putting aside Precision Camshafts’s performance relative to its industry, its ROCE in absolute terms is poor – considering the risk of owning stocks compared to government bonds. Readers may wish to look for more rewarding investments.
As we can see, Precision Camshafts currently has an ROCE of 5.1%, less than the 28% it reported 3 years ago. Therefore we wonder if the company is facing new headwinds.
It is important to remember that ROCE shows past performance, and is not necessarily predictive. 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 only a point-in-time measure. How cyclical is Precision Camshafts? You can see for yourself by looking at this free graph of past earnings, revenue and cash flow.