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Are ReTo Eco-Solutions, Inc.’s (NASDAQ:RETO) High Returns Really That Great?

Simply Wall St

Today we'll look at ReTo Eco-Solutions, Inc. (NASDAQ:RETO) 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.

First up, we'll look at what ROCE is and how we calculate it. 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. 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.'

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 ReTo Eco-Solutions:

0.12 = US$7.2m ÷ (US$82m - US$21m) (Based on the trailing twelve months to December 2018.)

So, ReTo Eco-Solutions has an ROCE of 12%.

Check out our latest analysis for ReTo Eco-Solutions

Does ReTo Eco-Solutions Have A Good ROCE?

When making comparisons between similar businesses, investors may find ROCE useful. Using our data, we find that ReTo Eco-Solutions's ROCE is meaningfully better than the 8.9% average in the Basic Materials 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. Regardless of where ReTo Eco-Solutions sits next to its industry, its ROCE in absolute terms appears satisfactory, and this company could be worth a closer look.

You can see in the image below how ReTo Eco-Solutions's ROCE compares to its industry. Click to see more on past growth.

NasdaqCM:RETO Past Revenue and Net Income, September 13th 2019

It is important to remember that ROCE shows past performance, and is not necessarily predictive. ROCE can be misleading for companies in cyclical industries, with returns looking impressive during the boom times, but very weak during the busts. ROCE is, after all, simply a snap shot of a single year. How cyclical is ReTo Eco-Solutions? You can see for yourself by looking at this free graph of past earnings, revenue and cash flow.

ReTo Eco-Solutions'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.

ReTo Eco-Solutions has total liabilities of US$21m and total assets of US$82m. As a result, its current liabilities are equal to approximately 25% of its total assets. Low current liabilities are not boosting the ROCE too much.

Our Take On ReTo Eco-Solutions's ROCE

Overall, ReTo Eco-Solutions has a decent ROCE and could be worthy of further research. ReTo Eco-Solutions 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.

I will like ReTo Eco-Solutions better if I see some big insider buys. While we wait, check out this free list of growing companies with considerable, recent, insider buying.

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 editorial-team@simplywallst.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.