Are Papyless Co., Ltd.’s (TYO:3641) High Returns Really That Great?

Today we are going to look at Papyless Co., Ltd. (TYO:3641) to see whether it might be an attractive investment prospect. 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.

Firstly, we'll go over how we calculate ROCE. Second, we'll look at its ROCE compared to similar companies. Last but not least, we'll look at what impact its current liabilities have on its ROCE.

Understanding Return On Capital Employed (ROCE)

ROCE measures the 'return' (pre-tax profit) a company generates from 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. 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 Papyless:

0.20 = JP¥1.5b ÷ (JP¥13b - JP¥5.5b) (Based on the trailing twelve months to March 2020.)

Therefore, Papyless has an ROCE of 20%.

View our latest analysis for Papyless

Does Papyless Have A Good ROCE?

ROCE can be useful when making comparisons, such as between similar companies. Papyless's ROCE appears to be substantially greater than the 15% average in the Online Retail 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, Papyless's ROCE currently appears to be excellent.

Papyless's current ROCE of 20% is lower than its ROCE in the past, which was 36%, 3 years ago. This makes us wonder if the business is facing new challenges. You can see in the image below how Papyless's ROCE compares to its industry. Click to see more on past growth.

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 only a point-in-time measure. How cyclical is Papyless? You can see for yourself by looking at this free graph of past earnings, revenue and cash flow.

Papyless'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. 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 check the impact of this, we calculate if a company has high current liabilities relative to its total assets.

Papyless has total assets of JP¥13b and current liabilities of JP¥5.5b. As a result, its current liabilities are equal to approximately 42% of its total assets. Papyless's ROCE is boosted somewhat by its middling amount of current liabilities.

The Bottom Line On Papyless's ROCE

Even so, it has a great ROCE, and could be an attractive prospect for further research. Papyless 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.

For those who like to find winning investments this free list of growing companies with recent insider purchasing, could be just the ticket.

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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.