Today we are going to look at Yadea Group Holdings Ltd. (HKG:1585) to see whether it might be an attractive investment prospect. Specifically, we're going to calculate its Return On Capital Employed (ROCE), in the hopes of getting some insight into the business.

First of all, we'll work out how to calculate ROCE. Next, we'll compare it to others in its industry. Then we'll determine how its current liabilities are affecting 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. All else being equal, a better business will have a higher ROCE. 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 Yadea Group Holdings:

0.13 = CN¥418m ÷ (CN¥11b - CN¥7.6b) (Based on the trailing twelve months to December 2019.)

So, Yadea Group Holdings has an ROCE of 13%.

Check out our latest analysis for Yadea Group Holdings

Is Yadea Group Holdings's ROCE Good?

ROCE can be useful when making comparisons, such as between similar companies. In our analysis, Yadea Group Holdings's ROCE is meaningfully higher than the 4.3% average in the Auto industry. We consider this a positive sign, because it suggests it uses capital more efficiently than similar companies. Separate from Yadea Group Holdings's performance relative to its industry, its ROCE in absolute terms looks satisfactory, and it may be worth researching in more depth.

Yadea Group Holdings's current ROCE of 13% is lower than its ROCE in the past, which was 21%, 3 years ago. So investors might consider if it has had issues recently. The image below shows how Yadea Group Holdings's ROCE compares to its industry, and you can click it to see more detail on its past growth.

It is important to remember that ROCE shows past performance, and is not necessarily predictive. ROCE can be deceptive for cyclical businesses, as returns can look incredible in boom times, and terribly low in downturns. This is because ROCE only looks at one year, instead of considering returns across a whole cycle. How cyclical is Yadea Group Holdings? You can see for yourself by looking at this free graph of past earnings, revenue and cash flow.