Today we are going to look at Chevalier International Holdings Limited (HKG:25) to see whether it might be an attractive investment prospect. To be precise, we'll consider its Return On Capital Employed (ROCE), as that will inform our view of the quality of the business.
First, we'll go over how we calculate ROCE. Then we'll compare its ROCE to similar companies. Then we'll determine how its current liabilities are affecting its ROCE.
What is Return On Capital Employed (ROCE)?
ROCE measures the amount of pre-tax profits a company can generate from the capital employed in its business. Generally speaking a higher ROCE is better. 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?
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 Chevalier International Holdings:
0.037 = HK$489m ÷ (HK$17b - HK$3.6b) (Based on the trailing twelve months to September 2019.)
So, Chevalier International Holdings has an ROCE of 3.7%.
Is Chevalier International Holdings's ROCE Good?
When making comparisons between similar businesses, investors may find ROCE useful. Using our data, Chevalier International Holdings's ROCE appears to be around the 3.3% average of the Industrials industry. Regardless of how Chevalier International Holdings stacks up against its industry, its ROCE in absolute terms is quite low (especially compared to a bank account). There are potentially more appealing investments elsewhere.
The image below shows how Chevalier International Holdings's ROCE compares to its industry, and you can click it to see more detail on its past growth.
Remember that this metric is backwards looking - it shows what has happened in the past, and does not accurately predict the future. 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, after all, simply a snap shot of a single year. If Chevalier International Holdings is cyclical, it could make sense to check out this free graph of past earnings, revenue and cash flow.
Chevalier International Holdings's Current Liabilities And Their Impact On 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 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 counteract this, we check if a company has high current liabilities, relative to its total assets.
Chevalier International Holdings has current liabilities of HK$3.6b and total assets of HK$17b. As a result, its current liabilities are equal to approximately 22% of its total assets. This is not a high level of current liabilities, which would not boost the ROCE by much.
Our Take On Chevalier International Holdings's ROCE
While that is good to see, Chevalier International Holdings has a low ROCE and does not look attractive in this analysis. You might be able to find a better investment than Chevalier International Holdings. 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).
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 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.
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.