Today we’ll evaluate Trio-Tech International (NYSEMKT:TRT) to determine whether it could have potential as an investment idea. 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. And finally, we’ll look at how its current liabilities are impacting its ROCE.
Return On Capital Employed (ROCE): What is it?
ROCE is a metric for evaluating how much pre-tax income (in percentage terms) a company earns on the capital invested in its business. Generally speaking a higher ROCE is better. Overall, it is a valuable metric that has its flaws. Author Edwin Whiting says to be careful when comparing the ROCE of different businesses, since ‘No two businesses are exactly alike.’
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 Trio-Tech International:
0.039 = US$1.1m ÷ (US$37m – US$8.7m) (Based on the trailing twelve months to March 2019.)
Therefore, Trio-Tech International has an ROCE of 3.9%.
Does Trio-Tech International Have A Good ROCE?
When making comparisons between similar businesses, investors may find ROCE useful. Using our data, Trio-Tech International’s ROCE appears to be significantly below the 10% average in the Semiconductor industry. This performance could be negative if sustained, as it suggests the business may underperform its industry. Regardless of how Trio-Tech International stacks up against its industry, its ROCE in absolute terms is quite low (especially compared to a bank account). Readers may wish to look for more rewarding investments.
Trio-Tech International’s current ROCE of 3.9% is lower than 3 years ago, when the company reported a 5.3% ROCE. So investors might consider if it has had issues recently. The image below shows how Trio-Tech International’s ROCE compares to its industry, and you can click it to see more detail on its past growth.
It is important to remember that ROCE shows past performance, and is not necessarily predictive. ROCE can be deceptive for cyclical businesses, as returns can look incredible in boom times, and terribly low in downturns. ROCE is, after all, simply a snap shot of a single year. How cyclical is Trio-Tech International? You can see for yourself by looking at this free graph of past earnings, revenue and cash flow.
Do Trio-Tech International’s Current Liabilities Skew Its ROCE?
Short term (or current) liabilities, are things like supplier invoices, overdrafts, or tax bills that need to be paid within 12 months. 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 counteract this, we check if a company has high current liabilities, relative to its total assets.
Trio-Tech International has total liabilities of US$8.7m and total assets of US$37m. As a result, its current liabilities are equal to approximately 23% of its total assets. With a very reasonable level of current liabilities, so the impact on ROCE is fairly minimal.
Our Take On Trio-Tech International’s ROCE
While that is good to see, Trio-Tech International has a low ROCE and does not look attractive in this analysis. But note: make sure you look for a great company, not just the first idea you come across. So take a peek at this free list of interesting companies with strong recent earnings growth (and a P/E ratio below 20).
If you are like me, then you will not want to miss this free list of growing companies that insiders are buying.
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 firstname.lastname@example.org. 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.