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Milestone Builder Holdings Limited (HKG:1667) Is Employing Capital Very Effectively

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Today we are going to look at Milestone Builder Holdings Limited (HKG:1667) 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.

First, we’ll go over how we calculate ROCE. Next, we’ll compare it to others in its industry. 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 measure of a company’s yearly pre-tax profit (its return), relative to the capital employed in the business. Generally speaking a higher ROCE is better. Ultimately, it is a useful but imperfect metric. 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?

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 Milestone Builder Holdings:

0.18 = HK\$22m ÷ (HK\$392m – HK\$269m) (Based on the trailing twelve months to September 2018.)

So, Milestone Builder Holdings has an ROCE of 18%.

Does Milestone Builder Holdings Have A Good ROCE?

ROCE is commonly used for comparing the performance of similar businesses. Using our data, we find that Milestone Builder Holdings’s ROCE is meaningfully better than the 13% average in the Construction industry. We consider this a positive sign, because it suggests it uses capital more efficiently than similar companies. Independently of how Milestone Builder Holdings compares to its industry, its ROCE in absolute terms appears decent, and the company may be worthy of closer investigation.

Milestone Builder Holdings’s current ROCE of 18% is lower than its ROCE in the past, which was 61%, 3 years ago. Therefore we wonder if the company is facing new headwinds.

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. This is because ROCE only looks at one year, instead of considering returns across a whole cycle. You can check if Milestone Builder Holdings has cyclical profits by looking at this free graph of past earnings, revenue and cash flow.

Milestone Builder Holdings’s Current Liabilities And Their Impact On Its ROCE

Current liabilities are short term bills and invoices that need to be paid in 12 months or less. 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.

Milestone Builder Holdings has total assets of HK\$392m and current liabilities of HK\$269m. As a result, its current liabilities are equal to approximately 69% of its total assets. Milestone Builder Holdings has a relatively high level of current liabilities, boosting its ROCE meaningfully.

Our Take On Milestone Builder Holdings’s ROCE

This ROCE is pretty good, but remember that it would look less impressive with fewer current liabilities. Milestone Builder 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 like to buy stocks alongside management, then you might just love this free list of companies. (Hint: insiders have been buying them).

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 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. Thank you for reading.