Today we’ll look at SIIC Environment Holdings Ltd. (SGX:BHK) 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. 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 measures the ‘return’ (pre-tax profit) a company generates from capital employed in its business. All else being equal, a better business will have a higher ROCE. 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 SIIC Environment Holdings:
0.052 = CN¥1.2b ÷ (CN¥30b – CN¥8.2b) (Based on the trailing twelve months to March 2019.)
So, SIIC Environment Holdings has an ROCE of 5.2%.
Is SIIC Environment Holdings’s ROCE Good?
When making comparisons between similar businesses, investors may find ROCE useful. Using our data, SIIC Environment Holdings’s ROCE appears to be significantly below the 7.1% average in the Water Utilities industry. This performance is not ideal, as it suggests the company may not be deploying its capital as effectively as some competitors. Regardless of how SIIC Environment Holdings stacks up against its industry, its ROCE in absolute terms is quite low (especially compared to a bank account). It is likely that there are more attractive prospects out there.
When considering this metric, keep in mind that it is backwards looking, and not necessarily predictive. ROCE can be deceptive for cyclical businesses, as returns can look incredible in boom times, and terribly low in downturns. ROCE is, after all, simply a snap shot of a single year. Future performance is what matters, and you can see analyst predictions in our free report on analyst forecasts for the company.
How SIIC Environment 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. 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.
SIIC Environment Holdings has total assets of CN¥30b and current liabilities of CN¥8.2b. As a result, its current liabilities are equal to approximately 27% of its total assets. This is not a high level of current liabilities, which would not boost the ROCE by much.
What We Can Learn From SIIC Environment Holdings’s ROCE
While that is good to see, SIIC Environment Holdings has a low ROCE and does not look attractive in this analysis. 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.
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If you spot an error that warrants correction, please contact the editor at email@example.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.