Today we are going to look at Beijing Urban Construction Design & Development Group Co., Limited (HKG:1599) to see whether it might be an attractive investment prospect. 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. Then we'll compare its ROCE to similar companies. Last but not least, we'll look at what impact its current liabilities have on its ROCE.
Understanding 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. 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?
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 Beijing Urban Construction Design & Development Group:
0.065 = CN¥620m ÷ (CN¥17b - CN¥7.9b) (Based on the trailing twelve months to June 2019.)
So, Beijing Urban Construction Design & Development Group has an ROCE of 6.5%.
Does Beijing Urban Construction Design & Development Group Have A Good ROCE?
ROCE can be useful when making comparisons, such as between similar companies. In this analysis, Beijing Urban Construction Design & Development Group's ROCE appears meaningfully below the 12% average reported by the Construction industry. This could be seen as a negative, as it suggests some competitors may be employing their capital more efficiently. Separate from how Beijing Urban Construction Design & Development Group stacks up against its industry, its ROCE in absolute terms is mediocre; relative to the returns on government bonds. Readers may find more attractive investment prospects elsewhere.
Beijing Urban Construction Design & Development Group's current ROCE of 6.5% is lower than its ROCE in the past, which was 9.1%, 3 years ago. Therefore we wonder if the company is facing new headwinds. You can click on the image below to see (in greater detail) how Beijing Urban Construction Design & Development Group's past growth compares to other companies.
Remember that this metric is backwards looking - it shows what has happened in the past, and does not accurately predict the future. ROCE can be deceptive for cyclical businesses, as returns can look incredible in boom times, and terribly low in downturns. 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.
Do Beijing Urban Construction Design & Development Group's Current Liabilities Skew 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.
Beijing Urban Construction Design & Development Group has total assets of CN¥17b and current liabilities of CN¥7.9b. Therefore its current liabilities are equivalent to approximately 45% of its total assets. Beijing Urban Construction Design & Development Group has a medium level of current liabilities, which would boost its ROCE somewhat.
What We Can Learn From Beijing Urban Construction Design & Development Group's ROCE
Unfortunately, its ROCE is still uninspiring, and there are potentially more attractive prospects out there. Of course, you might also be able to find a better stock than Beijing Urban Construction Design & Development Group. So you may wish to see this free collection of other companies that have grown earnings strongly.
If you are like me, then you will not want to miss this free list of growing companies that insiders are buying.
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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.