Today we'll look at Fangdd Network Group Ltd. (NASDAQ:DUO) and reflect on its potential as an investment. Specifically, we're going to calculate its Return On Capital Employed (ROCE), in the hopes of getting some insight into the business.
First of all, we'll work out how to 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.
Understanding 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 Fangdd Network Group:
0.17 = CN¥178m ÷ (CN¥3.6b - CN¥2.5b) (Based on the trailing twelve months to September 2019.)
So, Fangdd Network Group has an ROCE of 17%.
Does Fangdd Network Group Have A Good ROCE?
One way to assess ROCE is to compare similar companies. In our analysis, Fangdd Network Group's ROCE is meaningfully higher than the 9.0% average in the Interactive Media and Services industry. I think that's good to see, since it implies the company is better than other companies at making the most of its capital. Independently of how Fangdd Network Group compares to its industry, its ROCE in absolute terms appears decent, and the company may be worthy of closer investigation.
You can see in the image below how Fangdd Network Group's ROCE compares to its industry. Click to see more on past growth.
Remember that this metric is backwards looking - it shows what has happened in the past, and does not accurately 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. Since the future is so important for investors, you should check out our free report on analyst forecasts for Fangdd Network Group.
What Are Current Liabilities, And How Do They Affect Fangdd Network Group's ROCE?
Short term (or current) liabilities, are things like supplier invoices, overdrafts, or tax bills that need to be paid within 12 months. Due to the way the ROCE equation works, having large bills due in the near term can make it look as though a company has less capital employed, and thus a higher ROCE than usual. To counteract this, we check if a company has high current liabilities, relative to its total assets.
Fangdd Network Group has current liabilities of CN¥2.5b and total assets of CN¥3.6b. As a result, its current liabilities are equal to approximately 70% of its total assets. Fangdd Network Group has a relatively high level of current liabilities, boosting its ROCE meaningfully.
What We Can Learn From Fangdd Network Group's ROCE
This ROCE is pretty good, but remember that it would look less impressive with fewer current liabilities. Fangdd Network Group looks strong on this analysis, but there are plenty of other companies that could be a good opportunity . Here is a free list of companies growing earnings rapidly.
I will like Fangdd Network Group better if I see some big insider buys. While we wait, check out this free list of growing companies with considerable, recent, insider buying.
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