Today we'll evaluate Thelloy Development Group Limited (HKG:1546) to determine whether it could have potential as an investment idea. Specifically, we're going to calculate its Return On Capital Employed (ROCE), in the hopes of getting some insight into the business.
First of all, we'll work out how to calculate ROCE. Next, we'll compare it to others in its industry. Then we'll determine how its current liabilities are affecting its ROCE.
Understanding Return On Capital Employed (ROCE)
ROCE is a metric for evaluating how much pre-tax income (in percentage terms) a company earns on the capital invested in its business. In general, businesses with a higher ROCE are usually better quality. 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 Thelloy Development Group:
0.42 = HK$58m ÷ (HK$357m - HK$219m) (Based on the trailing twelve months to March 2019.)
Therefore, Thelloy Development Group has an ROCE of 42%.
Does Thelloy Development Group Have A Good ROCE?
ROCE is commonly used for comparing the performance of similar businesses. Using our data, we find that Thelloy Development Group's ROCE is meaningfully better than the 13% average in the Construction 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 the industry comparison, in absolute terms, Thelloy Development Group's ROCE currently appears to be excellent.
In our analysis, Thelloy Development Group's ROCE appears to be 42%, compared to 3 years ago, when its ROCE was 24%. This makes us wonder if the company is improving. The image below shows how Thelloy Development Group's ROCE compares to its industry, and you can click it to see more detail on its 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. If Thelloy Development Group is cyclical, it could make sense to check out this free graph of past earnings, revenue and cash flow.
Thelloy Development Group's Current Liabilities And Their Impact On Its ROCE
Current liabilities are short term bills and invoices that need to be paid in 12 months or less. Due to the way ROCE is calculated, a high level of current liabilities makes a company look as though it has less capital employed, and thus can (sometimes unfairly) boost the ROCE. To check the impact of this, we calculate if a company has high current liabilities relative to its total assets.
Thelloy Development Group has total assets of HK$357m and current liabilities of HK$219m. Therefore its current liabilities are equivalent to approximately 61% of its total assets. Thelloy Development Group's high level of current liabilities boost the ROCE - but its ROCE is still impressive.
Our Take On Thelloy Development Group's ROCE
So we would be interested in doing more research here -- there may be an opportunity! There might be better investments than Thelloy Development Group 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.
For those who like to find winning investments this free list of growing companies with recent insider purchasing, could be just the ticket.
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.