Today we’ll look at CITIC Telecom International Holdings Limited (HKG:1883) 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. 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.
What is 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. 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.’
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 CITIC Telecom International Holdings:
0.084 = HK$1.3b ÷ (HK$19b – HK$2.6b) (Based on the trailing twelve months to June 2018.)
So, CITIC Telecom International Holdings has an ROCE of 8.4%.
Is CITIC Telecom International Holdings’s ROCE Good?
ROCE is commonly used for comparing the performance of similar businesses. It appears that CITIC Telecom International Holdings’s ROCE is fairly close to the Telecom industry average of 8.4%. Setting aside the industry comparison for now, CITIC Telecom International Holdings’s ROCE is mediocre in absolute terms, considering the risk of investing in stocks versus the safety of a bank account. It is possible that there are more rewarding investments out there.
When considering ROCE, bear in mind that it reflects the past and does not necessarily predict the future. 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. What happens in the future is pretty important for investors, so we have prepared a free report on analyst forecasts for CITIC Telecom International Holdings.
What Are Current Liabilities, And How Do They Affect CITIC Telecom International Holdings’s ROCE?
Liabilities, such as supplier bills and bank overdrafts, are referred to as current liabilities if they 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 check the impact of this, we calculate if a company has high current liabilities relative to its total assets.
CITIC Telecom International Holdings has total assets of HK$19b and current liabilities of HK$2.6b. As a result, its current liabilities are equal to approximately 14% of its total assets. This is a modest level of current liabilities, which would only have a small effect on ROCE.
Our Take On CITIC Telecom International Holdings’s ROCE
With that in mind, we’re not overly impressed with CITIC Telecom International Holdings’s ROCE, so it may not be the most appealing prospect. 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.
But note: CITIC Telecom International Holdings may not be the best stock to buy. So take a peek at this free list of interesting companies with high ROE and low debt.
To help readers see past the short term volatility of the financial market, we aim to bring you a long-term focused research analysis purely driven by fundamental data. Note that our analysis does not factor in the latest price-sensitive company announcements.
The author is an independent contributor and at the time of publication had no position in the stocks mentioned. For errors that warrant correction please contact the editor at email@example.com.