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Today we'll look at Vitasoy International Holdings Limited (HKG:345) and reflect on its potential as an investment. In particular, we'll consider its Return On Capital Employed (ROCE), as that can give us insight into how profitably the company is able to employ capital in its business.

Firstly, we'll go over how we calculate ROCE. Then we'll compare its ROCE to similar companies. Last but not least, we'll look at what impact its current liabilities have on 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. 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 Vitasoy International Holdings:

0.27 = HK$961m ÷ (HK$5.9b - HK$2.3b) (Based on the trailing twelve months to March 2019.)

Therefore, Vitasoy International Holdings has an ROCE of 27%.

View our latest analysis for Vitasoy International Holdings

Is Vitasoy International Holdings's ROCE Good?

ROCE is commonly used for comparing the performance of similar businesses. Using our data, we find that Vitasoy International Holdings's ROCE is meaningfully better than the 11% average in the Food 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. Regardless of the industry comparison, in absolute terms, Vitasoy International Holdings's ROCE currently appears to be excellent.

The image below shows how Vitasoy International Holdings's ROCE compares to its industry, and you can click it to see more detail on its past growth.

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. What happens in the future is pretty important for investors, so we have prepared a free report on analyst forecasts for Vitasoy International Holdings.

Do Vitasoy International Holdings's Current Liabilities Skew Its ROCE?

Current liabilities include invoices, such as supplier payments, short-term debt, or a tax bill, that need to be paid within 12 months. Due to the way ROCE is calculated, a high level of current liabilities makes a company look as though it has less capital employed, and thus can (sometimes unfairly) boost the ROCE. To check the impact of this, we calculate if a company has high current liabilities relative to its total assets.

Vitasoy International Holdings has total assets of HK$5.9b and current liabilities of HK$2.3b. Therefore its current liabilities are equivalent to approximately 39% of its total assets. Vitasoy International Holdings's ROCE is boosted somewhat by its middling amount of current liabilities.

What We Can Learn From Vitasoy International Holdings's ROCE

Still, it has a high ROCE, and may be an interesting prospect for further research. Vitasoy International Holdings looks strong on this analysis, but there are plenty of other companies that could be a good opportunity . Here is a free list of companies growing earnings rapidly.

If you like to buy stocks alongside management, then you might just love this free list of companies. (Hint: insiders have been buying them).

We aim to bring you long-term focused research analysis driven by fundamental data. Note that our analysis may not factor in the latest price-sensitive company announcements or qualitative material.

If you spot an error that warrants correction, please contact the editor at editorial-team@simplywallst.com. This article by Simply Wall St is general in nature. It does not constitute a recommendation to buy or sell any stock, and does not take account of your objectives, or your financial situation. Simply Wall St has no position in the stocks mentioned. Thank you for reading.