UK Markets open in 5 hrs 47 mins

Should Eddie Stobart Logistics plc’s (LON:ESL) Weak Investment Returns Worry You?

Simply Wall St

Today we'll evaluate Eddie Stobart Logistics plc (LON:ESL) to determine whether it could have potential as an investment idea. 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 up, we'll look at what ROCE is and how we calculate it. Next, we'll compare it to others in its industry. Then we'll determine how its current liabilities are affecting its ROCE.

Return On Capital Employed (ROCE): What is it?

ROCE measures the amount of pre-tax profits a company can generate from the capital employed in its business. In general, businesses with a higher ROCE are usually better quality. In brief, it is a useful tool, but it is not without drawbacks. 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'.

So, How Do We Calculate ROCE?

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 Eddie Stobart Logistics:

0.091 = UK£37m ÷ (UK£625m - UK£216m) (Based on the trailing twelve months to November 2018.)

So, Eddie Stobart Logistics has an ROCE of 9.1%.

Check out our latest analysis for Eddie Stobart Logistics

Does Eddie Stobart Logistics Have A Good ROCE?

One way to assess ROCE is to compare similar companies. We can see Eddie Stobart Logistics's ROCE is meaningfully below the Transportation industry average of 13%. This performance could be negative if sustained, as it suggests the business may underperform its industry. Separate from how Eddie Stobart Logistics stacks up against its industry, its ROCE in absolute terms is mediocre; relative to the returns on government bonds. Investors may wish to consider higher-performing investments.

You can click on the image below to see (in greater detail) how Eddie Stobart Logistics's past growth compares to other companies.

AIM:ESL Past Revenue and Net Income, August 27th 2019

When considering this metric, keep in mind that it is backwards looking, and 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. What happens in the future is pretty important for investors, so we have prepared a free report on analyst forecasts for Eddie Stobart Logistics.

Eddie Stobart Logistics's Current Liabilities And Their Impact On Its ROCE

Current liabilities are short term bills and invoices that need to be paid in 12 months or less. Due to the way ROCE is calculated, a high level of current liabilities makes a company look as though it has less capital employed, and thus can (sometimes unfairly) boost the ROCE. To counter this, investors can check if a company has high current liabilities relative to total assets.

Eddie Stobart Logistics has total assets of UK£625m and current liabilities of UK£216m. Therefore its current liabilities are equivalent to approximately 35% of its total assets. Eddie Stobart Logistics has a medium level of current liabilities, which would boost its ROCE somewhat.

Our Take On Eddie Stobart Logistics's ROCE

With this level of liabilities and a mediocre ROCE, there are potentially better investments out there. Of course, you might find a fantastic investment by looking at a few good candidates. So take a peek at this free list of companies with modest (or no) debt, trading on a P/E below 20.

If you are like me, then you will not want to miss this free list of growing companies that insiders are buying.

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.