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Should You Like Synergy Group Holdings International Limited’s (HKG:1539) High Return On Capital Employed?

Simply Wall St

Today we'll look at Synergy Group Holdings International Limited (HKG:1539) and reflect on its potential as an investment. 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.

First up, we'll look at what ROCE is and how we calculate it. Then we'll compare its ROCE to similar companies. Then we'll determine how its current liabilities are affecting 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.

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 Synergy Group Holdings International:

0.11 = HK$59m ÷ (HK$799m - HK$279m) (Based on the trailing twelve months to September 2019.)

Therefore, Synergy Group Holdings International has an ROCE of 11%.

Check out our latest analysis for Synergy Group Holdings International

Does Synergy Group Holdings International Have A Good ROCE?

ROCE is commonly used for comparing the performance of similar businesses. In our analysis, Synergy Group Holdings International's ROCE is meaningfully higher than the 7.6% average in the Trade Distributors industry. We consider this a positive sign, because it suggests it uses capital more efficiently than similar companies. Independently of how Synergy Group Holdings International compares to its industry, its ROCE in absolute terms appears decent, and the company may be worthy of closer investigation.

Synergy Group Holdings International's current ROCE of 11% is lower than 3 years ago, when the company reported a 44% ROCE. This makes us wonder if the business is facing new challenges. The image below shows how Synergy Group Holdings International's ROCE compares to its industry, and you can click it to see more detail on its past growth.

SEHK:1539 Past Revenue and Net Income, January 31st 2020

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, after all, simply a snap shot of a single year. If Synergy Group Holdings International is cyclical, it could make sense to check out this free graph of past earnings, revenue and cash flow.

Synergy Group Holdings International's Current Liabilities And Their Impact On Its ROCE

Liabilities, such as supplier bills and bank overdrafts, are referred to as current liabilities if they 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 counter this, investors can check if a company has high current liabilities relative to total assets.

Synergy Group Holdings International has total assets of HK$799m and current liabilities of HK$279m. Therefore its current liabilities are equivalent to approximately 35% of its total assets. Synergy Group Holdings International has a middling amount of current liabilities, increasing its ROCE somewhat.

Our Take On Synergy Group Holdings International's ROCE

Synergy Group Holdings International's ROCE does look good, but the level of current liabilities also contribute to that. There might be better investments than Synergy Group Holdings International 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.

If you are like me, then you will not want to miss this free list of growing companies that insiders are buying.

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.

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. Thank you for reading.