Why You Should Care About Ossia International Limited’s (SGX:O08) Low Return On Capital

Today we’ll evaluate Ossia International Limited (SGX:O08) to determine whether it could have potential as an investment idea. 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, we’ll go over how we calculate ROCE. Then we’ll compare its ROCE to similar companies. Then we’ll determine how its current liabilities are affecting its ROCE.

Return On Capital Employed (ROCE): What is it?

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. 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’.

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 Ossia International:

0.037 = S$1.6m ÷ (S$55m – S$12m) (Based on the trailing twelve months to September 2019.)

So, Ossia International has an ROCE of 3.7%.

Check out our latest analysis for Ossia International

Is Ossia International’s ROCE Good?

When making comparisons between similar businesses, investors may find ROCE useful. Using our data, Ossia International’s ROCE appears to be significantly below the 5.2% average in the Retail Distributors industry. This performance is not ideal, as it suggests the company may not be deploying its capital as effectively as some competitors. Independently of how Ossia International compares to its industry, its ROCE in absolute terms is low; especially compared to the ~1.8% available in government bonds. Readers may wish to look for more rewarding investments.

Ossia International has an ROCE of 3.7%, but it didn’t have an ROCE 3 years ago, since it was unprofitable. This makes us wonder if the company is improving. You can see in the image below how Ossia International’s ROCE compares to its industry. Click to see more on past growth.

SGX:O08 Past Revenue and Net Income March 27th 2020
SGX:O08 Past Revenue and Net Income March 27th 2020

When considering ROCE, bear in mind that it reflects the past and does not necessarily predict the future. Companies in cyclical industries can be difficult to understand using ROCE, as returns typically look high during boom times, and low during busts. This is because ROCE only looks at one year, instead of considering returns across a whole cycle. If Ossia International is cyclical, it could make sense to check out this free graph of past earnings, revenue and cash flow.

How Ossia International’s Current Liabilities Impact 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 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 counteract this, we check if a company has high current liabilities, relative to its total assets.

Ossia International has total assets of S$55m and current liabilities of S$12m. Therefore its current liabilities are equivalent to approximately 23% of its total assets. With a very reasonable level of current liabilities, so the impact on ROCE is fairly minimal.

The Bottom Line On Ossia International’s ROCE

While that is good to see, Ossia International has a low ROCE and does not look attractive in this analysis. You might be able to find a better investment than Ossia International. 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).

Ossia International is not the only stock insiders are buying. So take a peek at this free list of growing companies with insider 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.