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Today we'll look at International Housewares Retail Company Limited (HKG:1373) 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.
First of all, we'll work out how to 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.
Return On Capital Employed (ROCE): What is it?
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. Overall, it is a valuable metric that has its flaws. 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 International Housewares Retail:
0.19 = HK$136m ÷ (HK$995m - HK$267m) (Based on the trailing twelve months to October 2018.)
Therefore, International Housewares Retail has an ROCE of 19%.
View our latest analysis for International Housewares Retail
Does International Housewares Retail Have A Good ROCE?
One way to assess ROCE is to compare similar companies. Using our data, we find that International Housewares Retail's ROCE is meaningfully better than the 13% average in the Specialty Retail industry. We consider this a positive sign, because it suggests it uses capital more efficiently than similar companies. Independently of how International Housewares Retail compares to its industry, its ROCE in absolute terms appears decent, and the company may be worthy of closer investigation.
As we can see, International Housewares Retail currently has an ROCE of 19% compared to its ROCE 3 years ago, which was 9.8%. This makes us think the business might be improving.
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 International Housewares Retail? You can see for yourself by looking at this free graph of past earnings, revenue and cash flow.