Should You Like Datasonic Group Berhad’s (KLSE:DSONIC) High Return On Capital Employed?

Today we'll evaluate Datasonic Group Berhad (KLSE:DSONIC) to determine whether it could have potential as an investment idea. 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 up, we'll look at what ROCE is and how we calculate it. Second, we'll look at its ROCE compared to similar companies. Last but not least, we'll look at what impact its current liabilities have on its ROCE.

Return On Capital Employed (ROCE): What is it?

ROCE is a measure of a company's yearly pre-tax profit (its return), relative to the capital employed in the business. All else being equal, a better business will have a higher ROCE. Overall, it is a valuable metric that has its flaws. Renowned investment researcher Michael Mauboussin has suggested that a high ROCE can indicate that 'one dollar invested in the company generates value of more than one dollar'.

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 Datasonic Group Berhad:

0.17 = RM59m ÷ (RM458m - RM111m) (Based on the trailing twelve months to September 2019.)

So, Datasonic Group Berhad has an ROCE of 17%.

See our latest analysis for Datasonic Group Berhad

Is Datasonic Group Berhad's ROCE Good?

ROCE is commonly used for comparing the performance of similar businesses. Using our data, we find that Datasonic Group Berhad's ROCE is meaningfully better than the 14% average in the IT industry. We consider this a positive sign, because it suggests it uses capital more efficiently than similar companies. Separate from Datasonic Group Berhad's performance relative to its industry, its ROCE in absolute terms looks satisfactory, and it may be worth researching in more depth.

Datasonic Group Berhad's current ROCE of 17% is lower than its ROCE in the past, which was 25%, 3 years ago. This makes us wonder if the business is facing new challenges. You can see in the image below how Datasonic Group Berhad's ROCE compares to its industry. Click to see more on past growth.

Remember that this metric is backwards looking - it shows what has happened in the past, and does not accurately 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. ROCE is, after all, simply a snap shot of a single year. What happens in the future is pretty important for investors, so we have prepared a free report on analyst forecasts for Datasonic Group Berhad.

What Are Current Liabilities, And How Do They Affect Datasonic Group Berhad's ROCE?

Current liabilities include invoices, such as supplier payments, short-term debt, or a tax bill, that need to be paid within 12 months. 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 check the impact of this, we calculate if a company has high current liabilities relative to its total assets.

Datasonic Group Berhad has current liabilities of RM111m and total assets of RM458m. As a result, its current liabilities are equal to approximately 24% of its total assets. Low current liabilities are not boosting the ROCE too much.

Our Take On Datasonic Group Berhad's ROCE

This is good to see, and with a sound ROCE, Datasonic Group Berhad could be worth a closer look. Datasonic Group Berhad shapes up well under this analysis, but it is far from the only business delivering excellent numbers . You might also want to check this free collection of companies delivering excellent earnings growth.

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.