Today we are going to look at Dutech Holdings Limited (SGX:CZ4) 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.
Understanding 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. 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'.
So, How Do We Calculate ROCE?
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 Dutech Holdings:
0.055 = CN¥62m ÷ (CN¥1.6b - CN¥497m) (Based on the trailing twelve months to June 2019.)
Therefore, Dutech Holdings has an ROCE of 5.5%.
Is Dutech Holdings's ROCE Good?
One way to assess ROCE is to compare similar companies. Using our data, Dutech Holdings's ROCE appears to be around the 5.5% average of the Commercial Services industry. Separate from how Dutech Holdings stacks up against its industry, its ROCE in absolute terms is mediocre; relative to the returns on government bonds. Readers may find more attractive investment prospects elsewhere.
Dutech Holdings's current ROCE of 5.5% is lower than 3 years ago, when the company reported a 18% ROCE. This makes us wonder if the business is facing new challenges. The image below shows how Dutech Holdings's ROCE compares to its industry, and you can click it to see more detail on its past growth.
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. ROCE is only a point-in-time measure. If Dutech Holdings is cyclical, it could make sense to check out this free graph of past earnings, revenue and cash flow.
How Dutech Holdings's Current Liabilities Impact 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.
Dutech Holdings has total assets of CN¥1.6b and current liabilities of CN¥497m. Therefore its current liabilities are equivalent to approximately 31% of its total assets. Dutech Holdings's middling level of current liabilities have the effect of boosting its ROCE a bit.
What We Can Learn From Dutech Holdings's ROCE
With this level of liabilities and a mediocre ROCE, there are potentially better investments out there. You might be able to find a better investment than Dutech Holdings. If you want a selection of possible winners, check out this free list of interesting companies that trade on a P/E below 20 (but have proven they can grow earnings).
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 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. Thank you for reading.