In This Article:
Today we are going to look at Hindustan Composites Limited (NSE:HINDCOMPOS) 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 up, we'll look at what ROCE is and how we calculate it. 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.
What is Return On Capital Employed (ROCE)?
ROCE is a metric for evaluating how much pre-tax income (in percentage terms) a company earns on the capital invested in its business. All else being equal, a better business will have a higher ROCE. 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?
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 Hindustan Composites:
0.036 = ₹285m ÷ (₹8.3b - ₹403m) (Based on the trailing twelve months to March 2018.)
Therefore, Hindustan Composites has an ROCE of 3.6%.
Check out our latest analysis for Hindustan Composites
Does Hindustan Composites Have A Good ROCE?
When making comparisons between similar businesses, investors may find ROCE useful. In this analysis, Hindustan Composites's ROCE appears meaningfully below the 16% average reported by the Auto Components industry. This performance could be negative if sustained, as it suggests the business may underperform its industry. Independently of how Hindustan Composites compares to its industry, its ROCE in absolute terms is low; especially compared to the ~7.6% available in government bonds. It is likely that there are more attractive prospects out there.
Hindustan Composites's current ROCE of 3.6% is lower than 3 years ago, when the company reported a 5.6% ROCE. This makes us wonder if the business is facing new challenges.
It is important to remember that ROCE shows past performance, and is 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. This is because ROCE only looks at one year, instead of considering returns across a whole cycle. How cyclical is Hindustan Composites? You can see for yourself by looking at this free graph of past earnings, revenue and cash flow.