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Today we'll evaluate Golden Throat Holdings Group Company Limited (HKG:6896) 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.
Firstly, we'll go over how we calculate ROCE. Then we'll compare its ROCE to similar companies. And finally, we'll look at how its current liabilities are impacting 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. 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 Golden Throat Holdings Group:
0.15 = CN¥159m ÷ (CN¥1.5b - CN¥414m) (Based on the trailing twelve months to December 2018.)
Therefore, Golden Throat Holdings Group has an ROCE of 15%.
See our latest analysis for Golden Throat Holdings Group
Does Golden Throat Holdings Group Have A Good ROCE?
When making comparisons between similar businesses, investors may find ROCE useful. We can see Golden Throat Holdings Group's ROCE is around the 13% average reported by the Personal Products industry. Regardless of where Golden Throat Holdings Group sits next to its industry, its ROCE in absolute terms appears satisfactory, and this company could be worth a closer look.
When considering ROCE, bear in mind that it reflects the past and does not necessarily 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. How cyclical is Golden Throat Holdings Group? You can see for yourself by looking at this free graph of past earnings, revenue and cash flow.
Golden Throat Holdings Group's Current Liabilities And Their Impact On Its 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 the ROCE equation works, having large bills due in the near term can make it look as though a company has less capital employed, and thus a higher ROCE than usual. To check the impact of this, we calculate if a company has high current liabilities relative to its total assets.