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Evaluating China ZhengTong Auto Services Holdings Limited’s (HKG:1728) Investments In Its Business

Simply Wall St
·4 min read

Today we'll evaluate China ZhengTong Auto Services Holdings Limited (HKG:1728) to determine whether it could have potential as an investment idea. To be precise, we'll consider its Return On Capital Employed (ROCE), as that will inform our view of the quality of the business.

First of all, we'll work out how to 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.

What is 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. 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 China ZhengTong Auto Services Holdings:

0.11 = CN¥2.2b ÷ (CN¥45b - CN¥26b) (Based on the trailing twelve months to December 2019.)

So, China ZhengTong Auto Services Holdings has an ROCE of 11%.

Check out our latest analysis for China ZhengTong Auto Services Holdings

Does China ZhengTong Auto Services Holdings Have A Good ROCE?

When making comparisons between similar businesses, investors may find ROCE useful. Using our data, China ZhengTong Auto Services Holdings's ROCE appears to be around the 12% average of the Specialty Retail industry. Independently of how China ZhengTong Auto Services Holdings compares to its industry, its ROCE in absolute terms appears decent, and the company may be worthy of closer investigation.

You can see in the image below how China ZhengTong Auto Services Holdings's ROCE compares to its industry. Click to see more on past growth.

SEHK:1728 Past Revenue and Net Income April 2nd 2020
SEHK:1728 Past Revenue and Net Income April 2nd 2020

When considering ROCE, bear in mind that it reflects the past and does not necessarily predict the future. ROCE can be deceptive for cyclical businesses, as returns can look incredible in boom times, and terribly low in downturns. ROCE is only a point-in-time measure. Since the future is so important for investors, you should check out our free report on analyst forecasts for China ZhengTong Auto Services Holdings.

What Are Current Liabilities, And How Do They Affect China ZhengTong Auto Services Holdings's 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.

China ZhengTong Auto Services Holdings has total assets of CN¥45b and current liabilities of CN¥26b. As a result, its current liabilities are equal to approximately 58% of its total assets. China ZhengTong Auto Services Holdings has a relatively high level of current liabilities, boosting its ROCE meaningfully.

What We Can Learn From China ZhengTong Auto Services Holdings's ROCE

While its ROCE looks decent, it wouldn't look so good if it reduced current liabilities. China ZhengTong Auto Services Holdings looks strong on this analysis, but there are plenty of other companies that could be a good opportunity . Here is a free list of companies growing earnings rapidly.

For those who like to find winning investments this free list of growing companies with recent insider purchasing, could be just the ticket.

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.