Want to participate in a short research study? Help shape the future of investing tools and you could win a $250 gift card!
Today we are going to look at Yan Tat Group Holdings Limited (HKG:1480) to see whether it might be an attractive investment prospect. 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 of all, we’ll work out how to calculate ROCE. Second, we’ll look at its ROCE compared to similar companies. Finally, we’ll look at how its current liabilities affect its ROCE.
Return On Capital Employed (ROCE): What is it?
ROCE is a metric for evaluating how much pre-tax income (in percentage terms) a company earns on the capital invested in its business. In general, businesses with a higher ROCE are usually better quality. Ultimately, it is a useful but imperfect metric. 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 Yan Tat Group Holdings:
0.13 = HK$71m ÷ (HK$939m – HK$397m) (Based on the trailing twelve months to December 2018.)
Therefore, Yan Tat Group Holdings has an ROCE of 13%.
Is Yan Tat Group Holdings’s ROCE Good?
ROCE is commonly used for comparing the performance of similar businesses. Yan Tat Group Holdings’s ROCE appears to be substantially greater than the 9.9% average in the Electronic industry. We consider this a positive sign, because it suggests it uses capital more efficiently than similar companies. Regardless of where Yan Tat Group Holdings sits next to its industry, its ROCE in absolute terms appears satisfactory, and this company could be worth a closer look.
As we can see, Yan Tat Group Holdings currently has an ROCE of 13% compared to its ROCE 3 years ago, which was 9.7%. This makes us think the business might be improving.
It is important to remember that ROCE shows past performance, and is not necessarily predictive. Companies in cyclical industries can be difficult to understand using ROCE, as returns typically look high during boom times, and low during busts. ROCE is only a point-in-time measure. If Yan Tat Group Holdings is cyclical, it could make sense to check out this free graph of past earnings, revenue and cash flow.
How Yan Tat Group Holdings’s Current Liabilities Impact 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 counteract this, we check if a company has high current liabilities, relative to its total assets.
Yan Tat Group Holdings has total liabilities of HK$397m and total assets of HK$939m. Therefore its current liabilities are equivalent to approximately 42% of its total assets. Yan Tat Group Holdings has a medium level of current liabilities, which would boost the ROCE.
What We Can Learn From Yan Tat Group Holdings’s ROCE
While its ROCE looks good, it’s worth remembering that the current liabilities are making the business look better. Yan Tat Group Holdings looks strong on this analysis, but there are plenty of other companies that could be a good opportunity . Here is a free list of companies growing earnings rapidly.
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 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.