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Why We Like Griffin Mining Limited’s (LON:GFM) 16% Return On Capital Employed

Simply Wall St

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Today we are going to look at Griffin Mining Limited (LON:GFM) to see whether it might be an attractive investment prospect. 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 of all, we'll work out how to calculate ROCE. Second, we'll look at its ROCE compared to similar companies. Finally, we'll look at how its current liabilities affect its ROCE.

Understanding Return On Capital Employed (ROCE)

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 Griffin Mining:

0.16 = US$36m ÷ (US$251m - US$35m) (Based on the trailing twelve months to December 2018.)

So, Griffin Mining has an ROCE of 16%.

See our latest analysis for Griffin Mining

Does Griffin Mining Have A Good ROCE?

ROCE is commonly used for comparing the performance of similar businesses. Using our data, we find that Griffin Mining's ROCE is meaningfully better than the 13% average in the Metals and Mining industry. I think that's good to see, since it implies the company is better than other companies at making the most of its capital. Independently of how Griffin Mining compares to its industry, its ROCE in absolute terms appears decent, and the company may be worthy of closer investigation.

We can see that , Griffin Mining currently has an ROCE of 16% compared to its ROCE 3 years ago, which was 2.8%. This makes us think about whether the company has been reinvesting shrewdly. You can click on the image below to see (in greater detail) how Griffin Mining's past growth compares to other companies.

AIM:GFM Past Revenue and Net Income, July 17th 2019

When considering this metric, keep in mind that it is backwards looking, and not necessarily predictive. ROCE can be deceptive for cyclical businesses, as returns can look incredible in boom times, and terribly low in downturns. This is because ROCE only looks at one year, instead of considering returns across a whole cycle. Remember that most companies like Griffin Mining are cyclical businesses. Future performance is what matters, and you can see analyst predictions in our free report on analyst forecasts for the company.

Do Griffin Mining's Current Liabilities Skew 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.

Griffin Mining has total liabilities of US$35m and total assets of US$251m. Therefore its current liabilities are equivalent to approximately 14% of its total assets. A fairly low level of current liabilities is not influencing the ROCE too much.

The Bottom Line On Griffin Mining's ROCE

With that in mind, Griffin Mining's ROCE appears pretty good. There might be better investments than Griffin Mining out there, but you will have to work hard to find them . These promising businesses with rapidly growing earnings might be right up your alley.

For those who like to find winning investments this free list of growing companies with recent insider purchasing, could be just the ticket.

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.