Does Daechang Forging Co., Ltd.’s (KRX:015230) ROCE Reflect Well On The Business?

Today we'll look at Daechang Forging Co., Ltd. (KRX:015230) 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 of all, we'll work out how to calculate ROCE. Then we'll compare its ROCE to similar companies. Then we'll determine how its current liabilities are affecting 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. 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.

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 Daechang Forging:

0.087 = ₩18b ÷ (₩241b - ₩35b) (Based on the trailing twelve months to September 2019.)

So, Daechang Forging has an ROCE of 8.7%.

See our latest analysis for Daechang Forging

Does Daechang Forging Have A Good ROCE?

ROCE can be useful when making comparisons, such as between similar companies. Using our data, Daechang Forging's ROCE appears to be around the 7.5% average of the Machinery industry. Separate from how Daechang Forging stacks up against its industry, its ROCE in absolute terms is mediocre; relative to the returns on government bonds. Investors may wish to consider higher-performing investments.

You can click on the image below to see (in greater detail) how Daechang Forging's past growth compares to other companies.

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. How cyclical is Daechang Forging? You can see for yourself by looking at this free graph of past earnings, revenue and cash flow.

Daechang Forging'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.

Daechang Forging has current liabilities of ₩35b and total assets of ₩241b. As a result, its current liabilities are equal to approximately 15% of its total assets. This very reasonable level of current liabilities would not boost the ROCE by much.

The Bottom Line On Daechang Forging's ROCE

That said, Daechang Forging's ROCE is mediocre, there may be more attractive investments around. You might be able to find a better investment than Daechang Forging. 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).

For those who like to find winning investments this free list of growing companies with recent insider purchasing, could be just the ticket.

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.