Today we'll evaluate China Yongda Automobiles Services Holdings Limited (HKG:3669) to determine whether it could have potential as an investment idea. Specifically, we're going to calculate its Return On Capital Employed (ROCE), in the hopes of getting some insight into the business.
First up, we'll look at what ROCE is and how we calculate it. Next, we'll compare it to others in its industry. Last but not least, we'll look at what impact its current liabilities have on 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. 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 Yongda Automobiles Services Holdings:
0.17 = CN¥2.4b ÷ (CN¥32b - CN¥18b) (Based on the trailing twelve months to June 2019.)
So, China Yongda Automobiles Services Holdings has an ROCE of 17%.
Does China Yongda Automobiles Services Holdings Have A Good ROCE?
When making comparisons between similar businesses, investors may find ROCE useful. Using our data, we find that China Yongda Automobiles Services Holdings's ROCE is meaningfully better than the 14% average in the Specialty Retail industry. We consider this a positive sign, because it suggests it uses capital more efficiently than similar companies. Independently of how China Yongda Automobiles Services 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 Yongda Automobiles Services Holdings currently has an ROCE of 17%, compared to its ROCE of 11% 3 years ago. This makes us think the business might be improving. The image below shows how China Yongda Automobiles Services Holdings'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. 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. What happens in the future is pretty important for investors, so we have prepared a free report on analyst forecasts for China Yongda Automobiles Services Holdings.
What Are Current Liabilities, And How Do They Affect China Yongda Automobiles Services Holdings's 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 counteract this, we check if a company has high current liabilities, relative to its total assets.
China Yongda Automobiles Services Holdings has total liabilities of CN¥18b and total assets of CN¥32b. As a result, its current liabilities are equal to approximately 56% of its total assets. This is admittedly a high level of current liabilities, improving ROCE substantially.
Our Take On China Yongda Automobiles Services Holdings's ROCE
While its ROCE looks decent, it wouldn't look so good if it reduced current liabilities. There might be better investments than China Yongda Automobiles Services Holdings out there, but you will have to work hard to find them . These promising businesses with rapidly growing earnings might be right up your alley.
If you are like me, then you will not want to miss this free list of growing companies that insiders are buying.
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 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. Thank you for reading.