U.S. Markets closed

Should Capinfo Company Limited’s (HKG:1075) Weak Investment Returns Worry You?

Simply Wall St

Today we'll look at Capinfo Company Limited (HKG:1075) 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.

Firstly, 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.

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.'

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 Capinfo:

0.079 = CN¥83m ÷ (CN¥2.2b - CN¥1.2b) (Based on the trailing twelve months to December 2018.)

So, Capinfo has an ROCE of 7.9%.

See our latest analysis for Capinfo

Does Capinfo Have A Good ROCE?

ROCE is commonly used for comparing the performance of similar businesses. We can see Capinfo's ROCE is meaningfully below the IT industry average of 12%. This could be seen as a negative, as it suggests some competitors may be employing their capital more efficiently. Aside from the industry comparison, Capinfo's ROCE is mediocre in absolute terms, considering the risk of investing in stocks versus the safety of a bank account. Investors may wish to consider higher-performing investments.

Our data shows that Capinfo currently has an ROCE of 7.9%, compared to its ROCE of 0.6% 3 years ago. This makes us think the business might be improving. The image below shows how Capinfo's ROCE compares to its industry, and you can click it to see more detail on its past growth.

SEHK:1075 Past Revenue and Net Income, August 19th 2019

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 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. If Capinfo is cyclical, it could make sense to check out this free graph of past earnings, revenue and cash flow.

How Capinfo's Current Liabilities Impact Its 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 counteract this, we check if a company has high current liabilities, relative to its total assets.

Capinfo has total liabilities of CN¥1.2b and total assets of CN¥2.2b. As a result, its current liabilities are equal to approximately 53% of its total assets. With a high level of current liabilities, Capinfo will experience a boost to its ROCE.

Our Take On Capinfo's ROCE

Notably, it also has a mediocre ROCE, which to my mind is not an appealing combination. You might be able to find a better investment than Capinfo. 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.

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.

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. Thank you for reading.