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Today we’ll evaluate Baguio Green Group Limited (HKG:1397) to determine whether it could have potential as an investment idea. In particular, we’ll consider its Return On Capital Employed (ROCE), as that can give us insight into how profitably the company is able to employ capital in its 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. And finally, we’ll look at how its current liabilities are impacting its ROCE.
What is 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. 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 Baguio Green Group:
0.096 = HK$30m ÷ (HK$603m – HK$328m) (Based on the trailing twelve months to June 2018.)
Therefore, Baguio Green Group has an ROCE of 9.6%.
See our latest analysis for Baguio Green Group
Is Baguio Green Group’s ROCE Good?
ROCE is commonly used for comparing the performance of similar businesses. It appears that Baguio Green Group’s ROCE is fairly close to the Commercial Services industry average of 11%. Setting aside the industry comparison for now, Baguio Green Group’s ROCE is mediocre in absolute terms, considering the risk of investing in stocks versus the safety of a bank account. Investors may wish to consider higher-performing investments.
As we can see, Baguio Green Group currently has an ROCE of 9.6%, less than the 18% it reported 3 years ago. Therefore we wonder if the company is facing new headwinds.
When considering this metric, keep in mind that it is backwards looking, and not necessarily predictive. 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 Baguio Green Group is cyclical, it could make sense to check out this free graph of past earnings, revenue and cash flow.