Examining Newpark Resources, Inc.’s (NYSE:NR) Weak Return On Capital Employed
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Today we'll look at Newpark Resources, Inc. (NYSE:NR) and reflect on its potential as an investment. 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 up, we'll look at what ROCE is and how we calculate it. Second, we'll look at its ROCE compared to similar companies. Then we'll determine how its current liabilities are affecting its ROCE.
What is 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. 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 Newpark Resources:
0.083 = US$64m ÷ (US$916m - US$142m) (Based on the trailing twelve months to December 2018.)
Therefore, Newpark Resources has an ROCE of 8.3%.
View our latest analysis for Newpark Resources
Does Newpark Resources Have A Good ROCE?
One way to assess ROCE is to compare similar companies. Using our data, Newpark Resources's ROCE appears to be significantly below the 12% average in the Energy Services industry. This performance could be negative if sustained, as it suggests the business may underperform its industry. Separate from how Newpark Resources 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.
Newpark Resources reported an ROCE of 8.3% -- better than 3 years ago, when the company didn't make a profit. This makes us wonder if the company is improving.
Remember that this metric is backwards looking - it shows what has happened in the past, and does not accurately predict the future. 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 only a point-in-time measure. Given the industry it operates in, Newpark Resources could be considered cyclical. Since the future is so important for investors, you should check out our free report on analyst forecasts for Newpark Resources.
Do Newpark Resources's Current Liabilities Skew Its ROCE?
Current liabilities are short term bills and invoices that need to be paid in 12 months or less. 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.
Newpark Resources has total liabilities of US$142m and total assets of US$916m. Therefore its current liabilities are equivalent to approximately 15% of its total assets. This very reasonable level of current liabilities would not boost the ROCE by much.
Our Take On Newpark Resources's ROCE
With that in mind, we're not overly impressed with Newpark Resources's ROCE, so it may not be the most appealing prospect. But note: Newpark Resources may not be the best stock to buy. So take a peek at this free list of interesting companies with strong recent earnings growth (and a P/E ratio below 20).
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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.