Yahoo Finance How Do Vonage Holdings Corp.’s (NYSE:VG) Returns Compare To Its Industry?
Today we’ll look at Vonage Holdings Corp. (NYSE:VG) and reflect on its potential as an investment. 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. Last but not least, we’ll look at what impact its current liabilities have on 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. 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’.
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 Vonage Holdings:
0.11 = US$64m ÷ (US$910m – US$163m) (Based on the trailing twelve months to September 2018.)
Therefore, Vonage Holdings has an ROCE of 11%.
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Does Vonage Holdings Have A Good ROCE?
ROCE is commonly used for comparing the performance of similar businesses. Vonage Holdings’s ROCE appears to be substantially greater than the 6.0% average in the Telecom industry. We would consider this a positive, as it suggests it is using capital more effectively than other similar companies. Separate from how Vonage 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.
When considering ROCE, bear in mind that it reflects the past and does not necessarily 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 Vonage Holdings.
What Are Current Liabilities, And How Do They Affect Vonage Holdings’s ROCE?
Current liabilities include invoices, such as supplier payments, short-term debt, or a tax bill, that 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.
Vonage Holdings has total assets of US$910m and current liabilities of US$163m. Therefore its current liabilities are equivalent to approximately 18% of its total assets. This is a modest level of current liabilities, which would only have a small effect on ROCE.
What We Can Learn From Vonage Holdings’s ROCE
With that in mind, we’re not overly impressed with Vonage Holdings’s ROCE, so it may not be the most appealing prospect. You might be able to find a better buy than Vonage 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).
For those who like to find winning investments this free list of growing companies with recent insider purchasing, could be just the ticket.
To help readers see past the short term volatility of the financial market, we aim to bring you a long-term focused research analysis purely driven by fundamental data. Note that our analysis does not factor in the latest price-sensitive company announcements.
The author is an independent contributor and at the time of publication had no position in the stocks mentioned. For errors that warrant correction please contact the editor at editorial-team@simplywallst.com.
