Today we'll evaluate Studio City International Holdings Limited (NYSE:MSC) to determine whether it could have potential as an investment idea. Specifically, we'll consider its Return On Capital Employed (ROCE), since that will give us an insight into how efficiently the business can generate profits from the capital it requires.
Firstly, we'll go over how we calculate ROCE. Then we'll compare its ROCE to similar companies. And finally, we'll look at how its current liabilities are impacting its ROCE.
What is Return On Capital Employed (ROCE)?
ROCE measures the amount of pre-tax profits a company can generate from the capital employed in its business. In general, businesses with a higher ROCE are usually better quality. 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 Studio City International Holdings:
0.062 = US$160m ÷ (US$3.0b - US$449m) (Based on the trailing twelve months to September 2019.)
Therefore, Studio City International Holdings has an ROCE of 6.2%.
Does Studio City International Holdings Have A Good ROCE?
ROCE can be useful when making comparisons, such as between similar companies. Using our data, Studio City International Holdings's ROCE appears to be significantly below the 8.6% average in the Hospitality industry. This performance is not ideal, as it suggests the company may not be deploying its capital as effectively as some competitors. Separate from how Studio City International 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.
Studio City International Holdings delivered an ROCE of 6.2%, which is better than 3 years ago, as was making losses back then. That suggests the business has returned to profitability. You can click on the image below to see (in greater detail) how Studio City International Holdings's past growth compares to other companies.
Remember that this metric is backwards looking - it shows what has happened in the past, and does not accurately predict the future. 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 only a point-in-time measure. What happens in the future is pretty important for investors, so we have prepared a free report on analyst forecasts for Studio City International Holdings.
How Studio City International 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 check the impact of this, we calculate if a company has high current liabilities relative to its total assets.
Studio City International Holdings has total assets of US$3.0b and current liabilities of US$449m. Therefore its current liabilities are equivalent to approximately 15% of its total assets. It is good to see a restrained amount of current liabilities, as this limits the effect on ROCE.
What We Can Learn From Studio City International Holdings's ROCE
That said, Studio City International Holdings's ROCE is mediocre, there may be more attractive investments around. Of course, you might find a fantastic investment by looking at a few good candidates. So take a peek at this free list of companies with modest (or no) debt, trading on a P/E below 20.
If you are like me, then you will not want to miss this free list of growing companies that insiders are 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 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.