Today we are going to look at Yanzhou Coal Mining Company Limited (HKG:1171) to see whether it might be an attractive investment prospect. 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. Second, we'll look at its ROCE compared to similar companies. Finally, we'll look at how its current liabilities affect 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. In general, businesses with a higher ROCE are usually better quality. In brief, it is a useful tool, but it is not without drawbacks. 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?
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 Yanzhou Coal Mining:
0.12 = CN¥17b ÷ (CN¥197b - CN¥52b) (Based on the trailing twelve months to March 2019.)
Therefore, Yanzhou Coal Mining has an ROCE of 12%.
Is Yanzhou Coal Mining's ROCE Good?
ROCE is commonly used for comparing the performance of similar businesses. Yanzhou Coal Mining's ROCE appears to be substantially greater than the 7.3% average in the Oil and Gas industry. We would consider this a positive, as it suggests it is using capital more effectively than other similar companies. Regardless of where Yanzhou Coal Mining sits next to its industry, its ROCE in absolute terms appears satisfactory, and this company could be worth a closer look.
In our analysis, Yanzhou Coal Mining's ROCE appears to be 12%, compared to 3 years ago, when its ROCE was 2.7%. This makes us think the business might be improving. You can click on the image below to see (in greater detail) how Yanzhou Coal Mining'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. 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. Given the industry it operates in, Yanzhou Coal Mining could be considered cyclical. Future performance is what matters, and you can see analyst predictions in our free report on analyst forecasts for the company.
How Yanzhou Coal Mining's Current Liabilities Impact 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 counter this, investors can check if a company has high current liabilities relative to total assets.
Yanzhou Coal Mining has total assets of CN¥197b and current liabilities of CN¥52b. As a result, its current liabilities are equal to approximately 26% of its total assets. Current liabilities are minimal, limiting the impact on ROCE.
Our Take On Yanzhou Coal Mining's ROCE
Overall, Yanzhou Coal Mining has a decent ROCE and could be worthy of further research. There might be better investments than Yanzhou Coal Mining 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.
I will like Yanzhou Coal Mining better if I see some big insider buys. While we wait, check out this free list of growing companies with considerable, recent, insider buying.
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.