In This Article:
Today we'll look at Asia Allied Infrastructure Holdings Limited (HKG:711) and reflect on its potential as an investment. 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. Finally, we'll look at how its current liabilities affect its ROCE.
Understanding Return On Capital Employed (ROCE)
ROCE measures the amount of pre-tax profits a company can generate from the capital employed 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. 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 Asia Allied Infrastructure Holdings:
0.015 = HK$59m ÷ (HK$8.5b - HK$4.5b) (Based on the trailing twelve months to September 2019.)
So, Asia Allied Infrastructure Holdings has an ROCE of 1.5%.
See our latest analysis for Asia Allied Infrastructure Holdings
Does Asia Allied Infrastructure Holdings Have A Good ROCE?
One way to assess ROCE is to compare similar companies. We can see Asia Allied Infrastructure Holdings's ROCE is meaningfully below the Construction industry average of 12%. This performance could be negative if sustained, as it suggests the business may underperform its industry. Putting aside Asia Allied Infrastructure Holdings's performance relative to its industry, its ROCE in absolute terms is poor - considering the risk of owning stocks compared to government bonds. Readers may wish to look for more rewarding investments.
Asia Allied Infrastructure Holdings's current ROCE of 1.5% is lower than 3 years ago, when the company reported a 4.3% ROCE. Therefore we wonder if the company is facing new headwinds. The image below shows how Asia Allied Infrastructure Holdings's ROCE compares to its industry, and you can click it to see more detail on its past growth.
When considering ROCE, bear in mind that it reflects the past and does not necessarily 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. ROCE is only a point-in-time measure. How cyclical is Asia Allied Infrastructure Holdings? You can see for yourself by looking at this free graph of past earnings, revenue and cash flow.