Yahoo Finance Why We Like Macmahon Holdings Limited’s (ASX:MAH) 9.7% Return On Capital Employed
Today we'll evaluate Macmahon Holdings Limited (ASX:MAH) 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. Second, we'll look at its ROCE compared to similar companies. Last but not least, we'll look at what impact its current liabilities have on its ROCE.
Return On Capital Employed (ROCE): What is it?
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. 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'.
So, How Do We Calculate ROCE?
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 Macmahon Holdings:
0.097 = AU$57m ÷ (AU$825m - AU$241m) (Based on the trailing twelve months to June 2019.)
So, Macmahon Holdings has an ROCE of 9.7%.
Check out our latest analysis for Macmahon Holdings
Is Macmahon Holdings's ROCE Good?
When making comparisons between similar businesses, investors may find ROCE useful. In our analysis, Macmahon Holdings's ROCE is meaningfully higher than the 8.0% average in the Metals and Mining industry. We consider this a positive sign, because it suggests it uses capital more efficiently than similar companies. Separate from how Macmahon Holdings stacks up against its industry, its ROCE in absolute terms is mediocre; relative to the returns on government bonds. Readers may find more attractive investment prospects elsewhere.
We can see that, Macmahon Holdings currently has an ROCE of 9.7% compared to its ROCE 3 years ago, which was 2.6%. This makes us wonder if the company is improving. You can click on the image below to see (in greater detail) how Macmahon Holdings's past growth compares to other companies.
When considering ROCE, bear in mind that it reflects the past and does not necessarily 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. Remember that most companies like Macmahon Holdings are cyclical businesses. Since the future is so important for investors, you should check out our free report on analyst forecasts for Macmahon Holdings.
Macmahon Holdings's Current Liabilities And Their Impact On Its 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 check the impact of this, we calculate if a company has high current liabilities relative to its total assets.
Macmahon Holdings has total liabilities of AU$241m and total assets of AU$825m. Therefore its current liabilities are equivalent to approximately 29% of its total assets. It is good to see a restrained amount of current liabilities, as this limits the effect on ROCE.
Our Take On Macmahon Holdings's ROCE
If Macmahon Holdings continues to earn an uninspiring ROCE, there may be better places to invest. You might be able to find a better investment than Macmahon Holdings. 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).
If you like to buy stocks alongside management, then you might just love this free list of companies. (Hint: insiders have been buying them).
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.