Fu Chun Shin Machinery Manufacture Co., Ltd.’s (GTSM:6603) Investment Returns Are Lagging Its Industry

Today we'll look at Fu Chun Shin Machinery Manufacture Co., Ltd. (GTSM:6603) and reflect on its potential as an investment. Specifically, we're going to calculate its Return On Capital Employed (ROCE), in the hopes of getting some insight into the business.

First up, we'll look at what ROCE is and how we calculate it. Next, we'll compare it to others in its industry. 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. In general, businesses with a higher ROCE are usually better quality. Overall, it is a valuable metric that has its flaws. 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?

The formula for calculating the return on capital employed is:

Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)

Or for Fu Chun Shin Machinery Manufacture:

0.005 = NT$17m ÷ (NT$5.5b - NT$2.0b) (Based on the trailing twelve months to September 2019.)

Therefore, Fu Chun Shin Machinery Manufacture has an ROCE of 0.5%.

View our latest analysis for Fu Chun Shin Machinery Manufacture

Is Fu Chun Shin Machinery Manufacture's ROCE Good?

ROCE is commonly used for comparing the performance of similar businesses. We can see Fu Chun Shin Machinery Manufacture's ROCE is meaningfully below the Machinery industry average of 9.6%. This performance is not ideal, as it suggests the company may not be deploying its capital as effectively as some competitors. Putting aside Fu Chun Shin Machinery Manufacture's performance relative to its industry, its ROCE in absolute terms is poor - considering the risk of owning stocks compared to government bonds. Readers may wish to look for more rewarding investments.

We can see that, Fu Chun Shin Machinery Manufacture currently has an ROCE of 0.5%, less than the 1.7% it reported 3 years ago. Therefore we wonder if the company is facing new headwinds. You can see in the image below how Fu Chun Shin Machinery Manufacture's ROCE compares to its industry. Click to see more on past growth.

When considering ROCE, bear in mind that it reflects the past and does not necessarily predict the future. 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. How cyclical is Fu Chun Shin Machinery Manufacture? You can see for yourself by looking at this free graph of past earnings, revenue and cash flow.

What Are Current Liabilities, And How Do They Affect Fu Chun Shin Machinery Manufacture's ROCE?

Short term (or current) liabilities, are things like supplier invoices, overdrafts, or tax bills that need to be paid within 12 months. 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.

Fu Chun Shin Machinery Manufacture has current liabilities of NT$2.0b and total assets of NT$5.5b. Therefore its current liabilities are equivalent to approximately 36% of its total assets. With a medium level of current liabilities boosting the ROCE a little, Fu Chun Shin Machinery Manufacture's low ROCE is unappealing.

The Bottom Line On Fu Chun Shin Machinery Manufacture's ROCE

There are likely better investments out there. Of course, you might also be able to find a better stock than Fu Chun Shin Machinery Manufacture. So you may wish to see this free collection of other companies that have grown earnings strongly.

If you like to buy stocks alongside management, then you might just love this free list of companies. (Hint: insiders have been buying them).

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.