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Today we are going to look at China Boqi Environmental (Holding) Co., Ltd. (HKG:2377) 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 of all, we’ll work out how to calculate ROCE. Then we’ll compare its ROCE 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. In general, businesses with a higher ROCE are usually better quality. 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’.
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 China Boqi Environmental (Holding):
0.11 = CN¥190m ÷ (CN¥3.2b – CN¥1.1b) (Based on the trailing twelve months to June 2018.)
Therefore, China Boqi Environmental (Holding) has an ROCE of 11%.
Does China Boqi Environmental (Holding) Have A Good ROCE?
One way to assess ROCE is to compare similar companies. It appears that China Boqi Environmental (Holding)’s ROCE is fairly close to the Commercial Services industry average of 11%. Regardless of where China Boqi Environmental (Holding) sits next to its industry, its ROCE in absolute terms appears satisfactory, and this company could be worth a closer look.
Remember that this metric is backwards looking – it shows what has happened in the past, and does not accurately predict the future. ROCE can be deceptive for cyclical businesses, as returns can look incredible in boom times, and terribly low in downturns. ROCE is, after all, simply a snap shot of a single year. What happens in the future is pretty important for investors, so we have prepared a free report on analyst forecasts for China Boqi Environmental (Holding).
China Boqi Environmental (Holding)’s Current Liabilities And Their Impact On 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. Due to the way the ROCE equation works, having large bills due in the near term can make it look as though a company has less capital employed, and thus a higher ROCE than usual. To counteract this, we check if a company has high current liabilities, relative to its total assets.
China Boqi Environmental (Holding) has total liabilities of CN¥1.1b and total assets of CN¥3.2b. As a result, its current liabilities are equal to approximately 35% of its total assets. China Boqi Environmental (Holding) has a medium level of current liabilities, which would boost the ROCE.
Our Take On China Boqi Environmental (Holding)’s ROCE
China Boqi Environmental (Holding)’s ROCE does look good, but the level of current liabilities also contribute to that. Of course, you might find a fantastic investment by looking at a few good candidates. So take a peek at this free list of companies with modest (or no) debt, trading on a P/E below 20.
If you are like me, then you will not want to miss this free list of growing companies that insiders are buying.
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 firstname.lastname@example.org. 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.