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Today we’ll look at Transwind Infrastructures Limited (NSE:TRANSWIND) and reflect on its potential as an investment. In particular, we’ll consider its Return On Capital Employed (ROCE), as that can give us insight into how profitably the company is able to employ capital in its business.
First of all, we’ll work out how to calculate ROCE. Next, we’ll compare it to others in its industry. Finally, we’ll look at how its current liabilities affect its ROCE.
What is Return On Capital Employed (ROCE)?
ROCE is a measure of a company’s yearly pre-tax profit (its return), relative to the capital employed in the business. All else being equal, a better business will have a higher ROCE. In brief, it is a useful tool, but it is not without drawbacks. Author Edwin Whiting says to be careful when comparing the ROCE of different businesses, since ‘No two businesses are exactly alike.’
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 Transwind Infrastructures:
0.075 = ₹12m ÷ (₹227m – ₹66m) (Based on the trailing twelve months to March 2018.)
Therefore, Transwind Infrastructures has an ROCE of 7.5%.
View our latest analysis for Transwind Infrastructures
Is Transwind Infrastructures’s ROCE Good?
One way to assess ROCE is to compare similar companies. Using our data, Transwind Infrastructures’s ROCE appears to be significantly below the 12% average in the Construction industry. This performance could be negative if sustained, as it suggests the business may underperform its industry. Putting aside Transwind Infrastructures’s performance relative to its industry, its ROCE in absolute terms is poor – considering the risk of owning stocks compared to government bonds. It is likely that there are more attractive prospects out there.
It is important to remember that ROCE shows past performance, and is not necessarily predictive. ROCE can be deceptive for cyclical businesses, as returns can look incredible in boom times, and terribly low in downturns. ROCE is, after all, simply a snap shot of a single year. How cyclical is Transwind Infrastructures? You can see for yourself by looking at this free graph of past earnings, revenue and cash flow.
How Transwind Infrastructures’s Current Liabilities Impact Its ROCE
Current liabilities are short term bills and invoices that need to be paid in 12 months or less. 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.