Today we are going to look at Sitoy Group Holdings Limited (HKG:1023) to see whether it might be an attractive investment prospect. To be precise, we'll consider its Return On Capital Employed (ROCE), as that will inform our view of the quality of the business.
First, 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.
Return On Capital Employed (ROCE): What is it?
ROCE measures the 'return' (pre-tax profit) a company generates from capital employed in its business. Generally speaking a higher ROCE is better. 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 Sitoy Group Holdings:
0.056 = HK$115m ÷ (HK$2.6b - HK$567m) (Based on the trailing twelve months to June 2019.)
So, Sitoy Group Holdings has an ROCE of 5.6%.
Is Sitoy Group Holdings's ROCE Good?
When making comparisons between similar businesses, investors may find ROCE useful. In this analysis, Sitoy Group Holdings's ROCE appears meaningfully below the 9.6% average reported by the Luxury industry. This performance could be negative if sustained, as it suggests the business may underperform its industry. Separate from how Sitoy Group Holdings stacks up against its industry, its ROCE in absolute terms is mediocre; relative to the returns on government bonds. Readers may find more attractive investment prospects elsewhere.
Sitoy Group Holdings's current ROCE of 5.6% is lower than its ROCE in the past, which was 16%, 3 years ago. So investors might consider if it has had issues recently. You can click on the image below to see (in greater detail) how Sitoy Group Holdings's past growth compares to other companies.
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 only a point-in-time measure. If Sitoy Group Holdings is cyclical, it could make sense to check out this free graph of past earnings, revenue and cash flow.
Sitoy Group Holdings's Current Liabilities And Their Impact On Its ROCE
Current liabilities include invoices, such as supplier payments, short-term debt, or a tax bill, that need to be paid within 12 months. Due to the way ROCE is calculated, a high level of current liabilities makes a company look as though it has less capital employed, and thus can (sometimes unfairly) boost the ROCE. To counter this, investors can check if a company has high current liabilities relative to total assets.
Sitoy Group Holdings has total liabilities of HK$567m and total assets of HK$2.6b. Therefore its current liabilities are equivalent to approximately 22% of its total assets. It is good to see a restrained amount of current liabilities, as this limits the effect on ROCE.
Our Take On Sitoy Group Holdings's ROCE
If Sitoy Group Holdings continues to earn an uninspiring ROCE, there may be better places to invest. But note: make sure you look for a great company, not just the first idea you come across. So take a peek at this free list of interesting companies with strong recent earnings growth (and a P/E ratio below 20).
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 email@example.com. 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.