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Today we are going to look at Hotel Chocolat Group Plc (LON:HOTC) 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. Next, we'll compare it to others in its industry. Finally, we'll look at how its current liabilities affect its ROCE.
What is Return On Capital Employed (ROCE)?
ROCE is a metric for evaluating how much pre-tax income (in percentage terms) a company earns on the capital invested in its business. Generally speaking a higher ROCE is better. 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 Hotel Chocolat Group:
0.26 = UK£14m ÷ (UK£84m - UK£30m) (Based on the trailing twelve months to December 2018.)
Therefore, Hotel Chocolat Group has an ROCE of 26%.
Is Hotel Chocolat Group's ROCE Good?
ROCE can be useful when making comparisons, such as between similar companies. Using our data, we find that Hotel Chocolat Group's ROCE is meaningfully better than the 12% average in the Food 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, Hotel Chocolat Group's ROCE in absolute terms currently looks quite high.
You can see in the image below how Hotel Chocolat Group's ROCE compares to its industry. Click to see more on past growth.
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. This is because ROCE only looks at one year, instead of considering returns across a whole cycle. Future performance is what matters, and you can see analyst predictions in our free report on analyst forecasts for the company.
How Hotel Chocolat Group's Current Liabilities Impact Its 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 counter this, investors can check if a company has high current liabilities relative to total assets.
Hotel Chocolat Group has total liabilities of UK£30m and total assets of UK£84m. Therefore its current liabilities are equivalent to approximately 36% of its total assets. Hotel Chocolat Group has a medium level of current liabilities, boosting its ROCE somewhat.
What We Can Learn From Hotel Chocolat Group's ROCE
Despite this, it reports a high ROCE, and may be worth investigating further. There might be better investments than Hotel Chocolat 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.
For those who like to find winning investments this free list of growing companies with recent insider purchasing, could be just the ticket.
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.
If you spot an error that warrants correction, please contact the editor at firstname.lastname@example.org. 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. Thank you for reading.