In This Article:
Today we are going to look at K W Nelson Interior Design and Contracting Group Limited (HKG:8411) 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. Then we'll compare its ROCE to similar companies. Finally, we'll look at how its current liabilities affect its ROCE.
Return On Capital Employed (ROCE): What is it?
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. 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'.
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 K W Nelson Interior Design and Contracting Group:
0.25 = HK$32m ÷ (HK$153m - HK$28m) (Based on the trailing twelve months to June 2019.)
Therefore, K W Nelson Interior Design and Contracting Group has an ROCE of 25%.
See our latest analysis for K W Nelson Interior Design and Contracting Group
Is K W Nelson Interior Design and Contracting Group's ROCE Good?
ROCE can be useful when making comparisons, such as between similar companies. K W Nelson Interior Design and Contracting Group's ROCE appears to be substantially greater than the 11% average in the Consumer Services industry. We would consider this a positive, as it suggests it is using capital more effectively than other similar companies. Putting aside its position relative to its industry for now, in absolute terms, K W Nelson Interior Design and Contracting Group's ROCE is currently very good.
You can see in the image below how K W Nelson Interior Design and Contracting Group's ROCE compares to its industry. Click to see more on past growth.
When considering this metric, keep in mind that it is backwards looking, and not necessarily predictive. ROCE can be misleading for companies in cyclical industries, with returns looking impressive during the boom times, but very weak during the busts. ROCE is only a point-in-time measure. If K W Nelson Interior Design and Contracting Group is cyclical, it could make sense to check out this free graph of past earnings, revenue and cash flow.