Today we'll look at Jiangxi Copper Company Limited (HKG:358) and reflect on its potential as an investment. Specifically, we're going to calculate its Return On Capital Employed (ROCE), in the hopes of getting some insight into the business.

First up, we'll look at what ROCE is and how we calculate it. Next, we'll compare it to others in its industry. And finally, we'll look at how its current liabilities are impacting 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. Generally speaking a higher ROCE is better. 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'.

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 Jiangxi Copper:

0.059 = CN¥3.6b ÷ (CN¥133b - CN¥72b) (Based on the trailing twelve months to September 2019.)

Therefore, Jiangxi Copper has an ROCE of 5.9%.

View our latest analysis for Jiangxi Copper

Is Jiangxi Copper's ROCE Good?

ROCE can be useful when making comparisons, such as between similar companies. In this analysis, Jiangxi Copper's ROCE appears meaningfully below the 7.8% average reported by the Metals and Mining industry. This performance could be negative if sustained, as it suggests the business may underperform its industry. Setting aside the industry comparison for now, Jiangxi Copper's ROCE is mediocre in absolute terms, considering the risk of investing in stocks versus the safety of a bank account. Readers may find more attractive investment prospects elsewhere.

In our analysis, Jiangxi Copper's ROCE appears to be 5.9%, compared to 3 years ago, when its ROCE was 2.9%. This makes us wonder if the company is improving. You can see in the image below how Jiangxi Copper's ROCE compares to its industry. Click to see more on past growth.

When considering ROCE, bear in mind that it reflects the past and does not necessarily predict the future. 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. Given the industry it operates in, Jiangxi Copper could be considered cyclical. Since the future is so important for investors, you should check out our free report on analyst forecasts for Jiangxi Copper.

How Jiangxi Copper's Current Liabilities Impact Its ROCE

Liabilities, such as supplier bills and bank overdrafts, are referred to as current liabilities if they 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.

Jiangxi Copper has total assets of CN¥133b and current liabilities of CN¥72b. As a result, its current liabilities are equal to approximately 54% of its total assets. With a high level of current liabilities, Jiangxi Copper will experience a boost to its ROCE.

The Bottom Line On Jiangxi Copper's ROCE

Notably, it also has a mediocre ROCE, which to my mind is not an appealing combination. Of course, you might find a fantastic investment by looking at a few good candidates. So take a peek at this free list of companies with modest (or no) debt, trading on a P/E below 20.

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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.

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. Thank you for reading.