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Today we’ll look at Hollysys Automation Technologies Ltd. (NASDAQ:HOLI) 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.
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.
Return On Capital Employed (ROCE): What is it?
ROCE measures the ‘return’ (pre-tax profit) a company generates from capital employed in its business. In general, businesses with a higher ROCE are usually better quality. Overall, it is a valuable metric that has its flaws. Author Edwin Whiting says to be careful when comparing the ROCE of different businesses, since ‘No two businesses are exactly alike.’
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 Hollysys Automation Technologies:
0.14 = US$120m ÷ (US$1.2b – US$321m) (Based on the trailing twelve months to September 2018.)
So, Hollysys Automation Technologies has an ROCE of 14%.
Does Hollysys Automation Technologies Have A Good ROCE?
When making comparisons between similar businesses, investors may find ROCE useful. Using our data, we find that Hollysys Automation Technologies’s ROCE is meaningfully better than the 11% average in the Electronic 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 Hollysys Automation Technologies compares to its industry, its ROCE in absolute terms appears decent, and the company may be worthy of closer investigation.
Hollysys Automation Technologies’s current ROCE of 14% is lower than its ROCE in the past, which was 21%, 3 years ago. This makes us wonder if the business is facing new challenges.
When considering this metric, keep in mind that it is backwards looking, and 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. ROCE is, after all, simply a snap shot of a single year. Future performance is what matters, and you can see analyst predictions in our free report on analyst forecasts for the company.
What Are Current Liabilities, And How Do They Affect Hollysys Automation Technologies’s 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.
Hollysys Automation Technologies has total assets of US$1.2b and current liabilities of US$321m. As a result, its current liabilities are equal to approximately 27% of its total assets. Current liabilities are minimal, limiting the impact on ROCE.
Our Take On Hollysys Automation Technologies’s ROCE
This is good to see, and with a sound ROCE, Hollysys Automation Technologies could be worth a closer look. But note: Hollysys Automation Technologies may not be the best stock to buy. 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.
To help readers see past the short term volatility of the financial market, we aim to bring you a long-term focused research analysis purely driven by fundamental data. Note that our analysis does not factor in the latest price-sensitive company announcements.
The author is an independent contributor and at the time of publication had no position in the stocks mentioned. For errors that warrant correction please contact the editor at firstname.lastname@example.org.