Today we are going to look at REM Group (Holdings) Limited (HKG:1750) to see whether it might be an attractive investment prospect. In particular, we’ll consider its Return On Capital Employed (ROCE), as that can give us insight into how profitably the company is able to employ capital in its business.
First up, we’ll look at what ROCE is and how we calculate it. Second, we’ll look at its ROCE compared to similar companies. Finally, we’ll look at how its current liabilities affect 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. Ultimately, it is a useful but imperfect metric. 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 REM Group (Holdings):
0.13 = HK$26m ÷ (HK$269m – HK$65m) (Based on the trailing twelve months to June 2019.)
So, REM Group (Holdings) has an ROCE of 13%.
Is REM Group (Holdings)’s ROCE Good?
One way to assess ROCE is to compare similar companies. REM Group (Holdings)’s ROCE appears to be substantially greater than the 8.1% average in the Electrical industry. We would consider this a positive, as it suggests it is using capital more effectively than other similar companies. Separate from REM Group (Holdings)’s performance relative to its industry, its ROCE in absolute terms looks satisfactory, and it may be worth researching in more depth.
REM Group (Holdings)’s current ROCE of 13% is lower than its ROCE in the past, which was 44%, 3 years ago. Therefore we wonder if the company is facing new headwinds. You can click on the image below to see (in greater detail) how REM Group (Holdings)’s past growth compares to other companies.
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 only a point-in-time measure. If REM Group (Holdings) is cyclical, it could make sense to check out this free graph of past earnings, revenue and cash flow.
How REM Group (Holdings)’s Current Liabilities Impact Its ROCE
Current liabilities include invoices, such as supplier payments, short-term debt, or a tax bill, that 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.
REM Group (Holdings) has total liabilities of HK$65m and total assets of HK$269m. As a result, its current liabilities are equal to approximately 24% of its total assets. A fairly low level of current liabilities is not influencing the ROCE too much.
Our Take On REM Group (Holdings)’s ROCE
With that in mind, REM Group (Holdings)’s ROCE appears pretty good. REM Group (Holdings) 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.
If you spot an error that warrants correction, please contact the editor at email@example.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.
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