Australia markets open in 3 hours 2 minutes

Why We Like G5 Entertainment AB (publ)’s (STO:G5EN) 18% Return On Capital Employed

Simply Wall St

Today we are going to look at G5 Entertainment AB (publ) (STO:G5EN) 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 up, we'll look at what ROCE is and how we calculate it. Then we'll compare its ROCE to similar companies. Then we'll determine how its current liabilities are affecting 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. All else being equal, a better business will have a higher ROCE. 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'.

So, How Do We Calculate ROCE?

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 G5 Entertainment:

0.18 = kr74m ÷ (kr604m - kr201m) (Based on the trailing twelve months to September 2019.)

Therefore, G5 Entertainment has an ROCE of 18%.

View our latest analysis for G5 Entertainment

Is G5 Entertainment's ROCE Good?

ROCE can be useful when making comparisons, such as between similar companies. In our analysis, G5 Entertainment's ROCE is meaningfully higher than the 14% average in the Entertainment 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 the industry comparison, in absolute terms, G5 Entertainment's ROCE currently appears to be excellent.

G5 Entertainment's current ROCE of 18% is lower than its ROCE in the past, which was 30%, 3 years ago. So investors might consider if it has had issues recently. You can see in the image below how G5 Entertainment's ROCE compares to its industry. Click to see more on past growth.

OM:G5EN Past Revenue and Net Income, February 10th 2020

When considering this metric, keep in mind that it is backwards looking, and 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. ROCE is, after all, simply a snap shot of a single year. Future performance is what matters, and you can see analyst predictions in our free report on analyst forecasts for the company.

How G5 Entertainment's Current Liabilities Impact Its ROCE

Liabilities, such as supplier bills and bank overdrafts, are referred to as current liabilities if they need to be paid within 12 months. 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 check the impact of this, we calculate if a company has high current liabilities relative to its total assets.

G5 Entertainment has total assets of kr604m and current liabilities of kr201m. As a result, its current liabilities are equal to approximately 33% of its total assets. G5 Entertainment's ROCE is boosted somewhat by its middling amount of current liabilities.

The Bottom Line On G5 Entertainment's ROCE

Still, it has a high ROCE, and may be an interesting prospect for further research. G5 Entertainment shapes up well under this analysis, but it is far from the only business delivering excellent numbers . You might also want to check this free collection of companies delivering excellent earnings growth.

I will like G5 Entertainment better if I see some big insider buys. While we wait, check out this free list of growing companies with considerable, recent, insider 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.