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Today we'll look at China Pioneer Pharma Holdings Limited (HKG:1345) 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, we'll go over how we calculate ROCE. Next, we'll compare it to others in its industry. Finally, we'll look at how its current liabilities affect its ROCE.
What is Return On Capital Employed (ROCE)?
ROCE is a measure of a company's yearly pre-tax profit (its return), relative to the capital employed in the 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. 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?
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 China Pioneer Pharma Holdings:
0.14 = CN¥158m ÷ (CN¥1.4b - CN¥330m) (Based on the trailing twelve months to December 2018.)
Therefore, China Pioneer Pharma Holdings has an ROCE of 14%.
View our latest analysis for China Pioneer Pharma Holdings
Does China Pioneer Pharma Holdings Have A Good ROCE?
ROCE can be useful when making comparisons, such as between similar companies. Using our data, we find that China Pioneer Pharma Holdings's ROCE is meaningfully better than the 11% average in the Healthcare industry. We consider this a positive sign, because it suggests it uses capital more efficiently than similar companies. Independently of how China Pioneer Pharma Holdings compares to its industry, its ROCE in absolute terms appears decent, and the company may be worthy of closer investigation.
China Pioneer Pharma Holdings's current ROCE of 14% is lower than its ROCE in the past, which was 25%, 3 years ago. So investors might consider if it has had issues recently.
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. This is because ROCE only looks at one year, instead of considering returns across a whole cycle. How cyclical is China Pioneer Pharma Holdings? You can see for yourself by looking at this free graph of past earnings, revenue and cash flow.