Today we'll look at Tak Lee Machinery Holdings Limited (HKG:8142) 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 of all, we'll work out how to calculate ROCE. 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 metric for evaluating how much pre-tax income (in percentage terms) a company earns on the capital invested in its business. All else being equal, a better business will have a higher ROCE. 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?
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 Tak Lee Machinery Holdings:
0.16 = HK$62m ÷ (HK$544m - HK$160m) (Based on the trailing twelve months to October 2019.)
Therefore, Tak Lee Machinery Holdings has an ROCE of 16%.
Does Tak Lee Machinery Holdings Have A Good ROCE?
When making comparisons between similar businesses, investors may find ROCE useful. Using our data, we find that Tak Lee Machinery Holdings's ROCE is meaningfully better than the 7.2% average in the Trade Distributors industry. We would consider this a positive, as it suggests it is using capital more effectively than other similar companies. Regardless of where Tak Lee Machinery Holdings 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 Tak Lee Machinery Holdings's ROCE compares to its industry. Click to see more on past growth.
When considering ROCE, bear in mind that it reflects the past and does not necessarily predict the future. 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. You can check if Tak Lee Machinery Holdings has cyclical profits by looking at this free graph of past earnings, revenue and cash flow.
Tak Lee Machinery Holdings'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 counter this, investors can check if a company has high current liabilities relative to total assets.
Tak Lee Machinery Holdings has total assets of HK$544m and current liabilities of HK$160m. Therefore its current liabilities are equivalent to approximately 29% of its total assets. Current liabilities are minimal, limiting the impact on ROCE.
What We Can Learn From Tak Lee Machinery Holdings's ROCE
Overall, Tak Lee Machinery Holdings has a decent ROCE and could be worthy of further research. Tak Lee Machinery Holdings 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.
For those who like to find winning investments this free list of growing companies with recent insider purchasing, could be just the ticket.
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.
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.