Today we are going to look at SANVO Fine Chemicals Group Limited (HKG:301) 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.

Firstly, we'll go over how we calculate ROCE. Second, we'll look at its ROCE compared to similar companies. And finally, we'll look at how its current liabilities are impacting its ROCE.

Understanding Return On Capital Employed (ROCE)

ROCE measures the amount of pre-tax profits a company can generate from the 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. Author Edwin Whiting says to be careful when comparing the ROCE of different businesses, since 'No two businesses are exactly alike.

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 SANVO Fine Chemicals Group:

0.28 = CN¥42m ÷ (CN¥410m - CN¥262m) (Based on the trailing twelve months to December 2019.)

Therefore, SANVO Fine Chemicals Group has an ROCE of 28%.

View our latest analysis for SANVO Fine Chemicals Group

Does SANVO Fine Chemicals Group Have A Good ROCE?

One way to assess ROCE is to compare similar companies. Using our data, we find that SANVO Fine Chemicals Group's ROCE is meaningfully better than the 12% average in the Chemicals 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, SANVO Fine Chemicals Group's ROCE in absolute terms currently looks quite high.

The image below shows how SANVO Fine Chemicals Group's ROCE compares to its industry, and you can click it to see more detail on its past growth.

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. This is because ROCE only looks at one year, instead of considering returns across a whole cycle. You can check if SANVO Fine Chemicals Group has cyclical profits by looking at this free graph of past earnings, revenue and cash flow.

Do SANVO Fine Chemicals Group's Current Liabilities Skew Its ROCE?

Short term (or current) liabilities, are things like supplier invoices, overdrafts, or tax bills 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 counter this, investors can check if a company has high current liabilities relative to total assets.