Yahoo Finance Should You Worry About Switch, Inc.’s (NYSE:SWCH) ROCE?
Today we'll evaluate Switch, Inc. (NYSE:SWCH) 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 of all, we'll work out how to calculate ROCE. Second, we'll look at its ROCE compared to similar companies. And finally, we'll look at how its current liabilities are impacting its ROCE.
Return On Capital Employed (ROCE): What is it?
ROCE measures the amount of pre-tax profits a company can generate from the capital employed in its business. Generally speaking a higher ROCE is better. In brief, it is a useful tool, but it is not without drawbacks. Author Edwin Whiting says to be careful when comparing the ROCE of different businesses, since 'No two businesses are exactly alike.
How Do You Calculate Return On Capital Employed?
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 Switch:
0.047 = US$82m ÷ (US$1.9b - US$109m) (Based on the trailing twelve months to March 2020.)
Therefore, Switch has an ROCE of 4.7%.
See our latest analysis for Switch
Does Switch Have A Good ROCE?
ROCE is commonly used for comparing the performance of similar businesses. We can see Switch's ROCE is meaningfully below the IT industry average of 11%. This performance could be negative if sustained, as it suggests the business may underperform its industry. Regardless of how Switch stacks up against its industry, its ROCE in absolute terms is quite low (especially compared to a bank account). There are potentially more appealing investments elsewhere.
We can see that, Switch currently has an ROCE of 4.7%, less than the 6.5% 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 Switch's past growth compares to other companies.
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.
Switch's Current Liabilities And Their Impact On 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 counteract this, we check if a company has high current liabilities, relative to its total assets.
Switch has current liabilities of US$109m and total assets of US$1.9b. As a result, its current liabilities are equal to approximately 5.9% of its total assets. With barely any current liabilities, there is minimal impact on Switch's admittedly low ROCE.
What We Can Learn From Switch's ROCE
Nevertheless, there are potentially more attractive companies to invest in. You might be able to find a better investment than Switch. 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 are like me, then you will not want to miss this free list of growing companies that insiders are 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.
