Today we'll look at China Resources Beer (Holdings) Company Limited (HKG:291) and reflect on its potential as an investment. To be precise, we'll consider its Return On Capital Employed (ROCE), as that will inform our view of the quality of the business.
Firstly, we'll go over how we calculate ROCE. Next, we'll compare it to others in its industry. Then we'll determine how its current liabilities are affecting 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. Ultimately, it is a useful but imperfect metric. Renowned investment researcher Michael Mauboussin has suggested that a high ROCE can indicate that 'one dollar invested in the company generates value of more than one dollar'.
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 China Resources Beer (Holdings):
0.13 = CN¥3.1b ÷ (CN¥45b - CN¥22b) (Based on the trailing twelve months to June 2019.)
Therefore, China Resources Beer (Holdings) has an ROCE of 13%.
Does China Resources Beer (Holdings) Have A Good ROCE?
ROCE is commonly used for comparing the performance of similar businesses. Using our data, we find that China Resources Beer (Holdings)'s ROCE is meaningfully better than the 6.1% average in the Beverage industry. We would consider this a positive, as it suggests it is using capital more effectively than other similar companies. Independently of how China Resources Beer (Holdings) compares to its industry, its ROCE in absolute terms appears decent, and the company may be worthy of closer investigation.
Our data shows that China Resources Beer (Holdings) currently has an ROCE of 13%, compared to its ROCE of 6.6% 3 years ago. This makes us think the business might be improving. You can see in the image below how China Resources Beer (Holdings)'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. This is because ROCE only looks at one year, instead of considering returns across a whole cycle. What happens in the future is pretty important for investors, so we have prepared a free report on analyst forecasts for China Resources Beer (Holdings).
Do China Resources Beer (Holdings)'s Current Liabilities Skew Its ROCE?
Current liabilities are short term bills and invoices that need to be paid in 12 months or less. 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 counter this, investors can check if a company has high current liabilities relative to total assets.
China Resources Beer (Holdings) has total assets of CN¥45b and current liabilities of CN¥22b. Therefore its current liabilities are equivalent to approximately 49% of its total assets. China Resources Beer (Holdings) has a medium level of current liabilities, which would boost the ROCE.
The Bottom Line On China Resources Beer (Holdings)'s ROCE
While its ROCE looks good, it's worth remembering that the current liabilities are making the business look better. China Resources Beer (Holdings) shapes up well under this analysis, but it is far from the only business delivering excellent numbers . You might also want to check this free collection of companies delivering excellent earnings growth.
If you are like me, then you will not want to miss this free list of growing companies that insiders are buying.
If you spot an error that warrants correction, please contact the editor at firstname.lastname@example.org. 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.