Today we'll look at 99 Technology Limited (ASX:NNT) 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 of all, we'll work out how to calculate ROCE. Next, we'll compare it to others in its industry. And finally, we'll look at how its current liabilities are impacting its ROCE.

Understanding Return On Capital Employed (ROCE)

ROCE is a metric for evaluating how much pre-tax income (in percentage terms) a company earns on the capital invested 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 99 Technology:

0.067 = CN¥22m ÷ (CN¥761m - CN¥432m) (Based on the trailing twelve months to December 2019.)

So, 99 Technology has an ROCE of 6.7%.

Check out our latest analysis for 99 Technology

Is 99 Technology's ROCE Good?

One way to assess ROCE is to compare similar companies. In this analysis, 99 Technology's ROCE appears meaningfully below the 16% average reported by the Software industry. This performance could be negative if sustained, as it suggests the business may underperform its industry. Separate from how 99 Technology stacks up against its industry, its ROCE in absolute terms is mediocre; relative to the returns on government bonds. Investors may wish to consider higher-performing investments.

We can see that, 99 Technology currently has an ROCE of 6.7% compared to its ROCE 3 years ago, which was 1.7%. This makes us think the business might be improving. You can see in the image below how 99 Technology'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. 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, after all, simply a snap shot of a single year. How cyclical is 99 Technology? You can see for yourself by looking at this free graph of past earnings, revenue and cash flow.