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Is China Yuchai International Limited (NYSE:CYD) Investing Effectively In Its Business?

Sam Bishop

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Today we are going to look at China Yuchai International Limited (NYSE:CYD) to see whether it might be an attractive investment prospect. In particular, we’ll consider its Return On Capital Employed (ROCE), as that can give us insight into how profitably the company is able to employ capital in its business.

First, we’ll go over how we calculate ROCE. Next, we’ll compare it to others in its industry. And finally, we’ll look at how its current liabilities are impacting 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. All else being equal, a better business will have a higher ROCE. 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?

Analysts use this formula to calculate return on capital employed:

Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets – Current Liabilities)

Or for China Yuchai International:

0.11 = CN¥1.3b ÷ (CN¥21b – CN¥9.4b) (Based on the trailing twelve months to September 2018.)

Therefore, China Yuchai International has an ROCE of 11%.

See our latest analysis for China Yuchai International

Does China Yuchai International Have A Good ROCE?

When making comparisons between similar businesses, investors may find ROCE useful. We can see China Yuchai International’s ROCE is around the 12% average reported by the Machinery industry. Independently of how China Yuchai International compares to its industry, its ROCE in absolute terms appears decent, and the company may be worthy of closer investigation.

NYSE:CYD Last Perf February 4th 19

It is important to remember that ROCE shows past performance, and is 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. ROCE is only a point-in-time measure. Future performance is what matters, and you can see analyst predictions in our free report on analyst forecasts for the company.

How China Yuchai International’s Current Liabilities Impact Its ROCE

Short term (or current) liabilities, are things like supplier invoices, overdrafts, or tax bills 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 Yuchai International has total assets of CN¥21b and current liabilities of CN¥9.4b. Therefore its current liabilities are equivalent to approximately 45% of its total assets. With this level of current liabilities, China Yuchai International’s ROCE is boosted somewhat.

Our Take On China Yuchai International’s ROCE

China Yuchai International’s ROCE does look good, but the level of current liabilities also contribute to that. Of course, you might find a fantastic investment by looking at a few good candidates. So take a peek at this free list of companies with modest (or no) debt, trading on a P/E below 20.

If you like to buy stocks alongside management, then you might just love this free list of companies. (Hint: insiders have been buying them).

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 editorial-team@simplywallst.com.