Today we are going to look at 58.com Inc. (NYSE:WUBA) 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 of all, we'll work out how to calculate ROCE. Second, we'll look at its ROCE compared to similar companies. Then we'll determine how its current liabilities are affecting its ROCE.
What is Return On Capital Employed (ROCE)?
ROCE measures the 'return' (pre-tax profit) a company generates from capital employed in its 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. 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?
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 58.com:
0.086 = CN¥2.8b ÷ (CN¥41b - CN¥7.7b) (Based on the trailing twelve months to September 2019.)
So, 58.com has an ROCE of 8.6%.
Is 58.com's ROCE Good?
ROCE can be useful when making comparisons, such as between similar companies. Using our data, 58.com's ROCE appears to be around the 9.0% average of the Interactive Media and Services industry. Separate from how 58.com stacks up against its industry, its ROCE in absolute terms is mediocre; relative to the returns on government bonds. It is possible that there are more rewarding investments out there.
58.com reported an ROCE of 8.6% -- better than 3 years ago, when the company didn't make a profit. That implies the business has been improving. You can see in the image below how 58.com's ROCE compares to its industry. Click to see more on past growth.
When considering this metric, keep in mind that it is backwards looking, and not necessarily predictive. ROCE can be misleading for companies in cyclical industries, with returns looking impressive during the boom times, but very weak during the busts. ROCE is only a point-in-time measure. Since the future is so important for investors, you should check out our free report on analyst forecasts for 58.com.
What Are Current Liabilities, And How Do They Affect 58.com's 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 check the impact of this, we calculate if a company has high current liabilities relative to its total assets.
58.com has total liabilities of CN¥7.7b and total assets of CN¥41b. Therefore its current liabilities are equivalent to approximately 19% of its total assets. This very reasonable level of current liabilities would not boost the ROCE by much.
Our Take On 58.com's ROCE
If 58.com continues to earn an uninspiring ROCE, there may be better places to invest. Of course, you might also be able to find a better stock than 58.com. So you may wish to see this free collection of other companies that have grown earnings strongly.
For those who like to find winning investments this free list of growing companies with recent insider purchasing, could be just the ticket.
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.
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