Should You Worry About Coslight Technology International Group Limited’s (HKG:1043) ROCE?

Today we’ll look at Coslight Technology International Group Limited (HKG:1043) and reflect on its potential as an investment. 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. Next, we’ll compare it to others in its industry. Last but not least, we’ll look at what impact its current liabilities have on its ROCE.

What is Return On Capital Employed (ROCE)?

ROCE measures the amount of pre-tax profits a company can generate from the 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. Author Edwin Whiting says to be careful when comparing the ROCE of different businesses, since ‘No two businesses are exactly alike.’

So, How Do We Calculate ROCE?

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 Coslight Technology International Group:

0.053 = CN¥144m ÷ (CN¥7.2b – CN¥4.5b) (Based on the trailing twelve months to December 2018.)

So, Coslight Technology International Group has an ROCE of 5.3%.

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View our latest analysis for Coslight Technology International Group

Is Coslight Technology International Group’s ROCE Good?

ROCE can be useful when making comparisons, such as between similar companies. Using our data, Coslight Technology International Group’s ROCE appears to be significantly below the 8.2% average in the Household Products industry. This performance is not ideal, as it suggests the company may not be deploying its capital as effectively as some competitors. Setting aside the industry comparison for now, Coslight Technology International Group’s ROCE is mediocre in absolute terms, considering the risk of investing in stocks versus the safety of a bank account. Readers may find more attractive investment prospects elsewhere.

Our data shows that Coslight Technology International Group currently has an ROCE of 5.3%, compared to its ROCE of 2.7% 3 years ago. This makes us think about whether the company has been reinvesting shrewdly.

SEHK:1043 Past Revenue and Net Income, May 16th 2019
SEHK:1043 Past Revenue and Net Income, May 16th 2019

It is important to remember that ROCE shows past performance, and is not necessarily predictive. ROCE can be misleading for companies in cyclical industries, with returns looking impressive during the boom times, but very weak during the busts. This is because ROCE only looks at one year, instead of considering returns across a whole cycle. How cyclical is Coslight Technology International Group? You can see for yourself by looking at this free graph of past earnings, revenue and cash flow.

Do Coslight Technology International Group’s Current Liabilities Skew 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.

Coslight Technology International Group has total liabilities of CN¥4.5b and total assets of CN¥7.2b. Therefore its current liabilities are equivalent to approximately 62% of its total assets. Coslight Technology International Group’s current liabilities are fairly high, making its ROCE look better than otherwise.

The Bottom Line On Coslight Technology International Group’s ROCE

Despite this, the company also has a uninspiring ROCE, which is not an ideal combination in this analysis. You might be able to find a better investment than Coslight Technology International Group. 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).

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.