In This Article:
Today we'll look at Tai Sin Electric Limited (SGX:500) and reflect on its potential as an investment. 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.
Firstly, we'll go over how we calculate ROCE. Then we'll compare its ROCE to similar companies. 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. 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?
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 Tai Sin Electric:
0.091 = S$18m ÷ (S$256m - S$60m) (Based on the trailing twelve months to December 2019.)
Therefore, Tai Sin Electric has an ROCE of 9.1%.
View our latest analysis for Tai Sin Electric
Is Tai Sin Electric's ROCE Good?
ROCE is commonly used for comparing the performance of similar businesses. Using our data, Tai Sin Electric's ROCE appears to be around the 7.8% average of the Electrical industry. Separate from how Tai Sin Electric stacks up against its industry, its ROCE in absolute terms is mediocre; relative to the returns on government bonds. It is possible that there are more rewarding investments out there.
Tai Sin Electric's current ROCE of 9.1% is lower than 3 years ago, when the company reported a 17% ROCE. So investors might consider if it has had issues recently. You can see in the image below how Tai Sin Electric's ROCE compares to its industry. Click to see more on 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. ROCE is, after all, simply a snap shot of a single year. How cyclical is Tai Sin Electric? You can see for yourself by looking at this free graph of past earnings, revenue and cash flow.
What Are Current Liabilities, And How Do They Affect Tai Sin Electric's ROCE?
Current liabilities are short term bills and invoices that need to be paid in 12 months or less. Due to the way the ROCE equation works, having large bills due in the near term can make it look as though a company has less capital employed, and thus a higher ROCE than usual. To counteract this, we check if a company has high current liabilities, relative to its total assets.