Today we’ll look at Tate & Lyle plc (LON:TATE) 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 up, we’ll look at what ROCE is and how we calculate it. Then we’ll compare its ROCE to similar companies. And finally, we’ll look at how its current liabilities are impacting its ROCE.
What is Return On Capital Employed (ROCE)?
ROCE measures the ‘return’ (pre-tax profit) a company generates from 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’.
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 Tate & Lyle:
0.12 = UK£279m ÷ (UK£2.8b – UK£489m) (Based on the trailing twelve months to September 2018.)
Therefore, Tate & Lyle has an ROCE of 12%.
Is Tate & Lyle’s ROCE Good?
ROCE is commonly used for comparing the performance of similar businesses. We can see Tate & Lyle’s ROCE is around the 12% average reported by the Food industry. Regardless of where Tate & Lyle sits next to its industry, its ROCE in absolute terms appears satisfactory, and this company could be worth a closer look.
It is important to remember that ROCE shows past performance, and is not necessarily predictive. ROCE can be misleading for companies in cyclical industries, with returns looking impressive during the boom times, but very weak during the busts. This is because ROCE only looks at one year, instead of considering returns across a whole cycle. What happens in the future is pretty important for investors, so we have prepared a free report on analyst forecasts for Tate & Lyle.
What Are Current Liabilities, And How Do They Affect Tate & Lyle’s 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.
Tate & Lyle has total liabilities of UK£489m and total assets of UK£2.8b. As a result, its current liabilities are equal to approximately 18% of its total assets. Current liabilities are minimal, limiting the impact on ROCE.
What We Can Learn From Tate & Lyle’s ROCE
With that in mind, Tate & Lyle’s ROCE appears pretty good. You might be able to find a better buy than Tate & Lyle. If you want a selection of possible winners, check out this free list of interesting companies that trade on a P/E below 20 (but have proven they can grow earnings).
For those who like to find winning investments this free list of growing companies with recent insider purchasing, could be just the ticket.
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If you spot an error that warrants correction, please contact the editor at firstname.lastname@example.org. 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.