Dec 13, 2019 | takungpao
Today we’ll evaluate Union Medical Healthcare Limited (HKG:2138) to determine whether it could have potential as an investment idea. 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, we’ll go over how we calculate ROCE. 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. 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?
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 Union Medical Healthcare:
0.28 = HK$439m ÷ (HK$2.5b – HK$944m) (Based on the trailing twelve months to September 2019.)
So, Union Medical Healthcare has an ROCE of 28%.
Does Union Medical Healthcare Have A Good ROCE?
ROCE is commonly used for comparing the performance of similar businesses. Using our data, we find that Union Medical Healthcare’s ROCE is meaningfully better than the 11% average in the Consumer Services industry. We consider this a positive sign, because it suggests it uses capital more efficiently than similar companies. Setting aside the comparison to its industry for a moment, Union Medical Healthcare’s ROCE in absolute terms currently looks quite high.
The image below shows how Union Medical Healthcare’s ROCE compares to its industry.
Remember that this metric is backwards looking – it shows what has happened in the past, and does not accurately 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. ROCE is, after all, simply a snap shot of a single year. Since the future is so important for investors, you should check out our free report on analyst forecasts for Union Medical Healthcare.
Union Medical Healthcare’s Current Liabilities And Their Impact On Its ROCE
Current liabilities include invoices, such as supplier payments, short-term debt, or a tax bill, that need to be paid within 12 months. Due to the way the ROCE equation works, having large bills due in the near term can make it look as though a company has less capital employed, and thus a higher ROCE than usual. To counteract this, we check if a company has high current liabilities, relative to its total assets.
Union Medical Healthcare has total liabilities of HK$944m and total assets of HK$2.5b. As a result, its current liabilities are equal to approximately 38% of its total assets. Union Medical Healthcare’s ROCE is boosted somewhat by its middling amount of current liabilities.
What We Can Learn From Union Medical Healthcare’s ROCE
Still, it has a high ROCE, and may be an interesting prospect for further research. Union Medical Healthcare shapes up well under this analysis, but it is far from the only business delivering excellent numbers . You might also want to check this free collection of companies delivering excellent earnings growth.
Union Medical Healthcare is not the only stock insiders are buying. So take a peek at this free list of growing companies with insider buying.