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Why So-Young International Inc.’s (NASDAQ:SY) Use Of Investor Capital Doesn’t Look Great

Simply Wall St

Today we'll evaluate So-Young International Inc. (NASDAQ:SY) to determine whether it could have potential as an investment idea. 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 up, we'll look at what ROCE is and how we calculate it. Second, we'll look at its ROCE compared to similar companies. Last but not least, we'll look at what impact its current liabilities have on its ROCE.

What is Return On Capital Employed (ROCE)?

ROCE measures the 'return' (pre-tax profit) a company generates from capital employed in its business. Generally speaking a higher ROCE is better. 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 So-Young International:

0.038 = CN¥102m ÷ (CN¥3.2b - CN¥450m) (Based on the trailing twelve months to September 2019.)

Therefore, So-Young International has an ROCE of 3.8%.

Check out our latest analysis for So-Young International

Does So-Young International Have A Good ROCE?

When making comparisons between similar businesses, investors may find ROCE useful. Using our data, So-Young International's ROCE appears to be significantly below the 8.9% average in the Interactive Media and Services industry. This performance could be negative if sustained, as it suggests the business may underperform its industry. Putting aside So-Young International's performance relative to its industry, its ROCE in absolute terms is poor - considering the risk of owning stocks compared to government bonds. It is likely that there are more attractive prospects out there.

The image below shows how So-Young International's ROCE compares to its industry, and you can click it to see more detail on its past growth.

NasdaqGM:SY Past Revenue and Net Income, December 13th 2019

Remember that this metric is backwards looking - it shows what has happened in the past, and does not accurately 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. Future performance is what matters, and you can see analyst predictions in our free report on analyst forecasts for the company.

What Are Current Liabilities, And How Do They Affect So-Young International's 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 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.

So-Young International has total liabilities of CN¥450m and total assets of CN¥3.2b. As a result, its current liabilities are equal to approximately 14% of its total assets. With a very reasonable level of current liabilities, so the impact on ROCE is fairly minimal.

Our Take On So-Young International's ROCE

So-Young International has a poor ROCE, and there may be better investment prospects out there. You might be able to find a better investment than So-Young International. If you want a selection of possible winners, check out this free list of interesting companies that trade on a P/E below 20 (but have proven they can grow earnings).

I will like So-Young International better if I see some big insider buys. While we wait, check out this free list of growing companies with considerable, recent, insider 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.