Yahoo Finance Should You Like TransDigm Group Incorporated’s (NYSE:TDG) High Return On Capital Employed?
Today we'll evaluate TransDigm Group Incorporated (NYSE:TDG) 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 of all, we'll work out how to calculate ROCE. Then we'll compare its ROCE to similar companies. And finally, we'll look at how its current liabilities are impacting its ROCE.
Understanding 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. Generally speaking a higher ROCE is better. Ultimately, it is a useful but imperfect metric. 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 TransDigm Group:
0.15 = US$2.2b ÷ (US$18b - US$3.4b) (Based on the trailing twelve months to December 2019.)
So, TransDigm Group has an ROCE of 15%.
View our latest analysis for TransDigm Group
Does TransDigm Group Have A Good ROCE?
ROCE is commonly used for comparing the performance of similar businesses. In our analysis, TransDigm Group's ROCE is meaningfully higher than the 11% average in the Aerospace & Defense 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. Regardless of where TransDigm Group sits next to its industry, its ROCE in absolute terms appears satisfactory, and this company could be worth a closer look.
You can see in the image below how TransDigm Group's ROCE compares to its industry. Click to see more on past growth.
Remember that this metric is backwards looking - it shows what has happened in the past, and does not accurately predict the future. 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. Since the future is so important for investors, you should check out our free report on analyst forecasts for TransDigm Group.
What Are Current Liabilities, And How Do They Affect TransDigm Group'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 the ROCE equation works, having large bills due in the near term can make it look as though a company has less capital employed, and thus a higher ROCE than usual. To check the impact of this, we calculate if a company has high current liabilities relative to its total assets.
TransDigm Group has total assets of US$18b and current liabilities of US$3.4b. Therefore its current liabilities are equivalent to approximately 18% of its total assets. A fairly low level of current liabilities is not influencing the ROCE too much.
The Bottom Line On TransDigm Group's ROCE
Overall, TransDigm Group has a decent ROCE and could be worthy of further research. TransDigm Group looks strong on this analysis, but there are plenty of other companies that could be a good opportunity . Here is a free list of companies growing earnings rapidly.
There are plenty of other companies that have insiders buying up shares. You probably do not want to miss this free list of growing companies that insiders are buying.
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.
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. Thank you for reading.
