In This Article:
Today we’ll evaluate Synergy Group Holdings International Limited (HKG:1539) 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.
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.
Understanding 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. In general, businesses with a higher ROCE are usually better quality. 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’.
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 Synergy Group Holdings International:
0.15 = HK$112m ÷ (HK$824m – HK$243m) (Based on the trailing twelve months to September 2018.)
Therefore, Synergy Group Holdings International has an ROCE of 15%.
View our latest analysis for Synergy Group Holdings International
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Is Synergy Group Holdings International’s ROCE Good?
One way to assess ROCE is to compare similar companies. Using our data, we find that Synergy Group Holdings International’s ROCE is meaningfully better than the 6.0% average in the Trade Distributors industry. I think that’s good to see, since it implies the company is better than other companies at making the most of its capital. Regardless of where Synergy Group Holdings International sits next to its industry, its ROCE in absolute terms appears satisfactory, and this company could be worth a closer look.
As we can see, Synergy Group Holdings International currently has an ROCE of 15%, less than the 52% it reported 3 years ago. This makes us wonder if the business is facing new challenges.
When considering this metric, keep in mind that it is backwards looking, and not necessarily predictive. ROCE can be misleading for companies in cyclical industries, with returns looking impressive during the boom times, but very weak during the busts. ROCE is only a point-in-time measure. How cyclical is Synergy Group Holdings International? You can see for yourself by looking at this free graph of past earnings, revenue and cash flow.