Today we are going to look at Sun Cheong Creative Development Holdings Limited (HKG:1781) to see whether it might be an attractive investment prospect. 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. Second, we'll look at its ROCE compared to similar companies. Finally, we'll look at how its current liabilities affect its ROCE.
Understanding Return On Capital Employed (ROCE)
ROCE measures the 'return' (pre-tax profit) a company generates from capital employed in its business. In general, businesses with a higher ROCE are usually better quality. Overall, it is a valuable metric that has its flaws. Author Edwin Whiting says to be careful when comparing the ROCE of different businesses, since 'No two businesses are exactly alike.
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 Sun Cheong Creative Development Holdings:
0.22 = HK$48m ÷ (HK$531m - HK$315m) (Based on the trailing twelve months to June 2019.)
Therefore, Sun Cheong Creative Development Holdings has an ROCE of 22%.
See our latest analysis for Sun Cheong Creative Development Holdings
Is Sun Cheong Creative Development Holdings's ROCE Good?
When making comparisons between similar businesses, investors may find ROCE useful. Sun Cheong Creative Development Holdings's ROCE appears to be substantially greater than the 13% average in the Packaging 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. Setting aside the comparison to its industry for a moment, Sun Cheong Creative Development Holdings's ROCE in absolute terms currently looks quite high.
We can see that, Sun Cheong Creative Development Holdings currently has an ROCE of 22%, less than the 63% it reported 3 years ago. So investors might consider if it has had issues recently. You can click on the image below to see (in greater detail) how Sun Cheong Creative Development Holdings's past growth compares to other companies.
When considering this metric, keep in mind that it is backwards looking, and 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 Sun Cheong Creative Development Holdings? You can see for yourself by looking at this free graph of past earnings, revenue and cash flow.