Today we are going to look at Grand Baoxin Auto Group Limited (HKG:1293) 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.
Firstly, we'll go over how we calculate ROCE. Second, we'll look at its ROCE compared to similar companies. Last but not least, we'll look at what impact its current liabilities have on 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?
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 Grand Baoxin Auto Group:
0.16 = CN¥1.8b ÷ (CN¥27b - CN¥16b) (Based on the trailing twelve months to June 2019.)
So, Grand Baoxin Auto Group has an ROCE of 16%.
Is Grand Baoxin Auto Group's ROCE Good?
When making comparisons between similar businesses, investors may find ROCE useful. In our analysis, Grand Baoxin Auto Group's ROCE is meaningfully higher than the 12% 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 Grand Baoxin Auto Group compares to its industry, its ROCE in absolute terms appears decent, and the company may be worthy of closer investigation.
Our data shows that Grand Baoxin Auto Group currently has an ROCE of 16%, compared to its ROCE of 7.6% 3 years ago. This makes us think about whether the company has been reinvesting shrewdly. You can see in the image below how Grand Baoxin Auto 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. 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. Since the future is so important for investors, you should check out our free report on analyst forecasts for Grand Baoxin Auto Group.
Grand Baoxin Auto Group's Current Liabilities And Their Impact On 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 check the impact of this, we calculate if a company has high current liabilities relative to its total assets.
Grand Baoxin Auto Group has total assets of CN¥27b and current liabilities of CN¥16b. Therefore its current liabilities are equivalent to approximately 58% of its total assets. Grand Baoxin Auto Group's current liabilities are fairly high, which increases its ROCE significantly.
Our Take On Grand Baoxin Auto Group's ROCE
The ROCE would not look as appealing if the company had fewer current liabilities. There might be better investments than Grand Baoxin Auto Group 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.
I will like Grand Baoxin Auto 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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