Is K W Nelson Interior Design and Contracting Group Limited’s (HKG:8411) 25% ROCE Any Good?

Today we'll look at K W Nelson Interior Design and Contracting Group Limited (HKG:8411) and reflect on its potential as an investment. 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.

First, we'll go over how we calculate ROCE. Next, we'll compare it to others in its industry. Then we'll determine how its current liabilities are affecting its ROCE.

Understanding Return On Capital Employed (ROCE)

ROCE is a metric for evaluating how much pre-tax income (in percentage terms) a company earns on the capital invested in its business. Generally speaking a higher ROCE is better. In brief, it is a useful tool, but it is not without drawbacks. 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 K W Nelson Interior Design and Contracting Group:

0.25 = HK$32m ÷ (HK$172m - HK$43m) (Based on the trailing twelve months to December 2019.)

So, K W Nelson Interior Design and Contracting Group has an ROCE of 25%.

Check out our latest analysis for K W Nelson Interior Design and Contracting Group

Does K W Nelson Interior Design and Contracting Group Have A Good ROCE?

ROCE is commonly used for comparing the performance of similar businesses. In our analysis, K W Nelson Interior Design and Contracting Group's ROCE is meaningfully higher than the 10% average in the Consumer Services industry. We would consider this a positive, as it suggests it is using capital more effectively than other similar companies. Regardless of the industry comparison, in absolute terms, K W Nelson Interior Design and Contracting Group's ROCE currently appears to be excellent.

K W Nelson Interior Design and Contracting Group's current ROCE of 25% is lower than 3 years ago, when the company reported a 36% ROCE. So investors might consider if it has had issues recently. The image below shows how K W Nelson Interior Design and Contracting Group's ROCE compares to its industry, and you can click it to see more detail on its past growth.

When considering ROCE, bear in mind that it reflects the past and does not necessarily 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. You can check if K W Nelson Interior Design and Contracting Group has cyclical profits by looking at this free graph of past earnings, revenue and cash flow.

K W Nelson Interior Design and Contracting Group'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. 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.

K W Nelson Interior Design and Contracting Group has total assets of HK$172m and current liabilities of HK$43m. As a result, its current liabilities are equal to approximately 25% of its total assets. A minimal amount of current liabilities limits the impact on ROCE.

The Bottom Line On K W Nelson Interior Design and Contracting Group's ROCE

This is good to see, and with such a high ROCE, K W Nelson Interior Design and Contracting Group may be worth a closer look. There might be better investments than K W Nelson Interior Design and Contracting Group out there, but you will have to work hard to find them . These promising businesses with rapidly growing earnings might be right up your alley.

I will like K W Nelson Interior Design and Contracting Group better if I see some big insider buys. While we wait, check out this free list of growing companies with considerable, recent, 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.