Today we'll evaluate Yihai International Holding Ltd. (HKG:1579) to determine whether it could have potential as an investment idea. Specifically, we'll consider its Return On Capital Employed (ROCE), since that will give us an insight into how efficiently the business can generate profits from the capital it requires.

First up, we'll look at what ROCE is and how we calculate it. Second, we'll look at its ROCE compared to similar companies. Then we'll determine how its current liabilities are affecting 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. Generally speaking a higher ROCE is better. 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 Yihai International Holding:

0.33 = CN¥681m ÷ (CN¥2.5b - CN¥422m) (Based on the trailing twelve months to December 2018.)

Therefore, Yihai International Holding has an ROCE of 33%.

View our latest analysis for Yihai International Holding

Does Yihai International Holding Have A Good ROCE?

When making comparisons between similar businesses, investors may find ROCE useful. Yihai International Holding's ROCE appears to be substantially greater than the 11% average in the Food industry. We consider this a positive sign, because it suggests it uses capital more efficiently than similar companies. Putting aside its position relative to its industry for now, in absolute terms, Yihai International Holding's ROCE is currently very good.

Yihai International Holding's current ROCE of 33% is lower than its ROCE in the past, which was 49%, 3 years ago. This makes us wonder if the business is facing new challenges. You can see in the image below how Yihai International Holding'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. Companies in cyclical industries can be difficult to understand using ROCE, as returns typically look high during boom times, and low during busts. ROCE is only a point-in-time measure. Future performance is what matters, and you can see analyst predictions in our free report on analyst forecasts for the company.