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Why HKBN Ltd.’s (HKG:1310) Return On Capital Employed Looks Uninspiring

Simply Wall St

Today we'll look at HKBN Ltd. (HKG:1310) and reflect on its potential as an investment. To be precise, we'll consider its Return On Capital Employed (ROCE), as that will inform our view of the quality of the business.

First, we'll go over how we calculate ROCE. Then we'll compare its ROCE to similar companies. Finally, we'll look at how its current liabilities affect its ROCE.

Understanding 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. In brief, it is a useful tool, but it is not without drawbacks. 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?

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 HKBN:

0.034 = HK$625m ÷ (HK$20b - HK$1.7b) (Based on the trailing twelve months to August 2019.)

So, HKBN has an ROCE of 3.4%.

See our latest analysis for HKBN

Does HKBN Have A Good ROCE?

When making comparisons between similar businesses, investors may find ROCE useful. We can see HKBN's ROCE is meaningfully below the Telecom industry average of 6.2%. This performance is not ideal, as it suggests the company may not be deploying its capital as effectively as some competitors. Regardless of how HKBN stacks up against its industry, its ROCE in absolute terms is quite low (especially compared to a bank account). Readers may wish to look for more rewarding investments.

HKBN's current ROCE of 3.4% is lower than its ROCE in the past, which was 8.0%, 3 years ago. Therefore we wonder if the company is facing new headwinds. You can see in the image below how HKBN's ROCE compares to its industry. Click to see more on past growth.

SEHK:1310 Past Revenue and Net Income, February 29th 2020

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. This is because ROCE only looks at one year, instead of considering returns across a whole cycle. What happens in the future is pretty important for investors, so we have prepared a free report on analyst forecasts for HKBN.

What Are Current Liabilities, And How Do They Affect HKBN's ROCE?

Short term (or current) liabilities, are things like supplier invoices, overdrafts, or tax bills 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.

HKBN has total assets of HK$20b and current liabilities of HK$1.7b. As a result, its current liabilities are equal to approximately 8.6% of its total assets. With barely any current liabilities, there is minimal impact on HKBN's admittedly low ROCE.

Our Take On HKBN's ROCE

Still, investors could probably find more attractive prospects with better performance out there. Of course, you might also be able to find a better stock than HKBN. So you may wish to see this free collection of other companies that have grown earnings strongly.

There are plenty of other companies that have insiders buying up shares. You probably do 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.