Yahoo Finance Should You Like L Brands, Inc.’s (NYSE:LB) High Return On Capital Employed?
Today we'll evaluate L Brands, Inc. (NYSE:LB) to determine whether it could have potential as an investment idea. Specifically, we're going to calculate its Return On Capital Employed (ROCE), in the hopes of getting some insight into the business.
First of all, we'll work out how to calculate ROCE. Second, we'll look at its ROCE compared to similar companies. Then we'll determine how its current liabilities are affecting 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. In general, businesses with a higher ROCE are usually better quality. 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 L Brands:
0.16 = US$1.4b ÷ (US$11b - US$2.2b) (Based on the trailing twelve months to August 2019.)
Therefore, L Brands has an ROCE of 16%.
View our latest analysis for L Brands
Is L Brands's ROCE Good?
ROCE can be useful when making comparisons, such as between similar companies. In our analysis, L Brands's ROCE is meaningfully higher than the 10% average in the Specialty Retail industry. We would consider this a positive, as it suggests it is using capital more effectively than other similar companies. Regardless of where L Brands sits next to its industry, its ROCE in absolute terms appears satisfactory, and this company could be worth a closer look.
We can see that, L Brands currently has an ROCE of 16%, less than the 38% it reported 3 years ago. So investors might consider if it has had issues recently. You can click on the image below to see (in greater detail) how L Brands's past growth compares to other companies.
It is important to remember that ROCE shows past performance, and is 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.
What Are Current Liabilities, And How Do They Affect L Brands's ROCE?
Liabilities, such as supplier bills and bank overdrafts, are referred to as current liabilities if they need to be paid within 12 months. 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 counteract this, we check if a company has high current liabilities, relative to its total assets.
L Brands has total assets of US$11b and current liabilities of US$2.2b. As a result, its current liabilities are equal to approximately 21% of its total assets. Current liabilities are minimal, limiting the impact on ROCE.
The Bottom Line On L Brands's ROCE
This is good to see, and with a sound ROCE, L Brands could be worth a closer look. There might be better investments than L Brands 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.
