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Here's What GAN Limited's (NASDAQ:GAN) ROCE Can Tell Us

Simply Wall St
·4 min read

Today we are going to look at GAN Limited (NASDAQ:GAN) to see whether it might be an attractive investment prospect. To be precise, we'll consider its Return On Capital Employed (ROCE), as that will inform our view of the quality of the business.

Firstly, we'll go over how we calculate ROCE. Then we'll compare its ROCE to similar companies. Finally, we'll look at how its current liabilities affect 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. All else being equal, a better business will have a higher ROCE. 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'.

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 GAN:

0.23 = US$3.5m ÷ (US$26m - US$10m) (Based on the trailing twelve months to December 2019.)

So, GAN has an ROCE of 23%.

Check out our latest analysis for GAN

Is GAN's ROCE Good?

One way to assess ROCE is to compare similar companies. GAN's ROCE appears to be substantially greater than the 8.0% average in the Hospitality industry. I think that's good to see, since it implies the company is better than other companies at making the most of its capital. Regardless of the industry comparison, in absolute terms, GAN's ROCE currently appears to be excellent.

GAN has an ROCE of 23%, but it didn't have an ROCE 3 years ago, since it was unprofitable. That implies the business has been improving. You can see in the image below how GAN's ROCE compares to its industry. Click to see more on past growth.

NasdaqCM:GAN Past Revenue and Net Income June 6th 2020
NasdaqCM:GAN Past Revenue and Net Income June 6th 2020

When considering this metric, keep in mind that it is backwards looking, and not necessarily predictive. 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. 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 GAN'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. 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 counter this, investors can check if a company has high current liabilities relative to total assets.

GAN has current liabilities of US$10m and total assets of US$26m. Therefore its current liabilities are equivalent to approximately 40% of its total assets. GAN has a medium level of current liabilities, boosting its ROCE somewhat.

The Bottom Line On GAN's ROCE

Despite this, it reports a high ROCE, and may be worth investigating further. GAN shapes up well under this analysis, but it is far from the only business delivering excellent numbers . You might also want to check this free collection of companies delivering excellent earnings growth.

If you are like me, then you will not want to miss this free list of growing companies that insiders are buying.

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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. We aim to bring you long-term focused analysis driven by fundamental data. Note that our analysis may not factor in the latest price-sensitive company announcements or qualitative material. Simply Wall St has no position in any stocks mentioned. Thank you for reading.