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Today we’ll evaluate China Resources Cement Holdings Limited (HKG:1313) to determine whether it could have potential as an investment idea. 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.
Firstly, we’ll go over how we calculate ROCE. Next, we’ll compare it to others in its industry. Finally, we’ll look at how its current liabilities affect its ROCE.
What is Return On Capital Employed (ROCE)?
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. 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 China Resources Cement Holdings:
0.22 = HK$4.8b ÷ (HK$59b – HK$15b) (Based on the trailing twelve months to September 2018.)
Therefore, China Resources Cement Holdings has an ROCE of 22%.
Is China Resources Cement Holdings’s ROCE Good?
ROCE is commonly used for comparing the performance of similar businesses. China Resources Cement Holdings’s ROCE appears to be substantially greater than the 14% average in the Basic Materials industry. We would consider this a positive, as it suggests it is using capital more effectively than other similar companies. Setting aside the comparison to its industry for a moment, China Resources Cement Holdings’s ROCE in absolute terms currently looks quite high.
As we can see, China Resources Cement Holdings currently has an ROCE of 22% compared to its ROCE 3 years ago, which was 8.6%. This makes us wonder if the company is improving.
When considering ROCE, bear in mind that it reflects the past and does not necessarily 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. Future performance is what matters, and you can see analyst predictions in our free report on analyst forecasts for the company.
China Resources Cement 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. 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 Resources Cement Holdings has total liabilities of HK$15b and total assets of HK$59b. As a result, its current liabilities are equal to approximately 25% of its total assets. The fairly low level of current liabilities won’t have much impact on the already great ROCE.
The Bottom Line On China Resources Cement Holdings’s ROCE
Low current liabilities and high ROCE is a good combination, making China Resources Cement Holdings look quite interesting. You might be able to find a better buy than China Resources Cement 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).
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To help readers see past the short term volatility of the financial market, we aim to bring you a long-term focused research analysis purely driven by fundamental data. Note that our analysis does not factor in the latest price-sensitive company announcements.
The author is an independent contributor and at the time of publication had no position in the stocks mentioned. For errors that warrant correction please contact the editor at firstname.lastname@example.org.