Yahoo Finance IMI plc (LON:IMI) Earns Among The Best Returns In Its Industry
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Today we’ll evaluate IMI plc (LON:IMI) to determine whether it could have potential as an investment idea. 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, we’ll go over how we calculate ROCE. Then we’ll compare its ROCE to similar companies. Then we’ll determine how its current liabilities are affecting 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. 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’.
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 IMI:
0.21 = UK£240m ÷ (UK£1.8b – UK£630m) (Based on the trailing twelve months to June 2018.)
Therefore, IMI has an ROCE of 21%.
See our latest analysis for IMI
Is IMI’s ROCE Good?
When making comparisons between similar businesses, investors may find ROCE useful. IMI’s ROCE appears to be substantially greater than the 13% average in the Machinery industry. We would consider this a positive, as it suggests it is using capital more effectively than other similar companies. Setting aside the comparison to its industry for a moment, IMI’s ROCE in absolute terms currently looks quite high.
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. Since the future is so important for investors, you should check out our free report on analyst forecasts for IMI.
What Are Current Liabilities, And How Do They Affect IMI’s ROCE?
Short term (or current) liabilities, are things like supplier invoices, overdrafts, or tax bills that need to be paid within 12 months. 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.
IMI has total liabilities of UK£630m and total assets of UK£1.8b. Therefore its current liabilities are equivalent to approximately 35% of its total assets. A medium level of current liabilities boosts IMI’s ROCE somewhat.
The Bottom Line On IMI’s ROCE
Even so, it has a great ROCE, and could be an attractive prospect for further research. Of course you might be able to find a better stock than IMI. So you may wish to see this free collection of other companies that have grown earnings strongly.
If you are like me, then you will not want to miss this free list of growing companies that insiders are buying.
To help readers see past the short term volatility of the financial market, we aim to bring you a long-term focused research analysis purely driven by fundamental data. Note that our analysis does not factor in the latest price-sensitive company announcements.
The author is an independent contributor and at the time of publication had no position in the stocks mentioned. For errors that warrant correction please contact the editor at editorial-team@simplywallst.com.
