Today we are going to look at China Datang Corporation Renewable Power Co., Limited (HKG:1798) to see whether it might be an attractive investment prospect. 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 up, we'll look at what ROCE is and how we calculate it. Next, we'll compare it to others in its industry. 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. All else being equal, a better business will have a higher ROCE. Ultimately, it is a useful but imperfect metric. 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 China Datang Corporation Renewable Power:
0.072 = CN¥3.9b ÷ (CN¥77b - CN¥22b) (Based on the trailing twelve months to June 2019.)
Therefore, China Datang Corporation Renewable Power has an ROCE of 7.2%.
Is China Datang Corporation Renewable Power's ROCE Good?
One way to assess ROCE is to compare similar companies. We can see China Datang Corporation Renewable Power's ROCE is around the 6.8% average reported by the Renewable Energy industry. Separate from how China Datang Corporation Renewable Power stacks up against its industry, its ROCE in absolute terms is mediocre; relative to the returns on government bonds. Readers may find more attractive investment prospects elsewhere.
Our data shows that China Datang Corporation Renewable Power currently has an ROCE of 7.2%, compared to its ROCE of 4.3% 3 years ago. This makes us wonder if the company is improving. The image below shows how China Datang Corporation Renewable Power's ROCE compares to its industry, and you can click it to see more detail on its past growth.
When considering this metric, keep in mind that it is backwards looking, and not necessarily predictive. Companies in cyclical industries can be difficult to understand using ROCE, as returns typically look high during boom times, and low during busts. This is because ROCE only looks at one year, instead of considering returns across a whole cycle. Future performance is what matters, and you can see analyst predictions in our free report on analyst forecasts for the company.
China Datang Corporation Renewable Power's Current Liabilities And Their Impact On Its 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.
China Datang Corporation Renewable Power has total liabilities of CN¥22b and total assets of CN¥77b. As a result, its current liabilities are equal to approximately 29% of its total assets. It is good to see a restrained amount of current liabilities, as this limits the effect on ROCE.
Our Take On China Datang Corporation Renewable Power's ROCE
That said, China Datang Corporation Renewable Power's ROCE is mediocre, there may be more attractive investments around. Of course, you might also be able to find a better stock than China Datang Corporation Renewable Power. 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).
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 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.