Today we are going to look at Karrie International Holdings Limited (HKG:1050) 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. Second, we'll look at its ROCE compared to similar companies. And finally, we'll look at how its current liabilities are impacting its ROCE.
Return On Capital Employed (ROCE): What is it?
ROCE is a measure of a company's yearly pre-tax profit (its return), relative to the capital employed in the business. Generally speaking a higher ROCE is better. Ultimately, it is a useful but imperfect metric. 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'.
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 Karrie International Holdings:
0.22 = HK$383m ÷ (HK$2.7b - HK$947m) (Based on the trailing twelve months to September 2019.)
Therefore, Karrie International Holdings has an ROCE of 22%.
Does Karrie International Holdings Have A Good ROCE?
One way to assess ROCE is to compare similar companies. Karrie International Holdings's ROCE appears to be substantially greater than the 9.2% average in the Electronic industry. We would consider this a positive, as it suggests it is using capital more effectively than other similar companies. Setting aside the comparison to its industry for a moment, Karrie International Holdings's ROCE in absolute terms currently looks quite high.
Our data shows that Karrie International Holdings currently has an ROCE of 22%, compared to its ROCE of 16% 3 years ago. This makes us wonder if the company is improving. You can click on the image below to see (in greater detail) how Karrie International Holdings's past growth compares to other companies.
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. This is because ROCE only looks at one year, instead of considering returns across a whole cycle. You can check if Karrie International Holdings has cyclical profits by looking at this free graph of past earnings, revenue and cash flow.
Do Karrie International Holdings's Current Liabilities Skew 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 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.
Karrie International Holdings has current liabilities of HK$947m and total assets of HK$2.7b. Therefore its current liabilities are equivalent to approximately 35% of its total assets. A medium level of current liabilities boosts Karrie International Holdings's ROCE somewhat.
Our Take On Karrie International Holdings's ROCE
Still, it has a high ROCE, and may be an interesting prospect for further research. Karrie International Holdings shapes up well under this analysis, but it is far from the only business delivering excellent numbers . You might also want to check this free collection of companies delivering excellent earnings growth.
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 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.