Today we are going to look at Aluminum Corporation of China Limited (HKG:2600) 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.
First, we'll go over how we calculate ROCE. Next, we'll compare it to others in its industry. Finally, we'll look at how its current liabilities affect its ROCE.
Return On Capital Employed (ROCE): What is it?
ROCE measures the 'return' (pre-tax profit) a company generates from 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.
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 Aluminum Corporation of China:
0.031 = CN¥4.2b ÷ (CN¥207b - CN¥73b) (Based on the trailing twelve months to September 2019.)
Therefore, Aluminum Corporation of China has an ROCE of 3.1%.
Is Aluminum Corporation of China's ROCE Good?
When making comparisons between similar businesses, investors may find ROCE useful. Using our data, Aluminum Corporation of China's ROCE appears to be significantly below the 7.8% average in the Metals and Mining industry. This performance could be negative if sustained, as it suggests the business may underperform its industry. Independently of how Aluminum Corporation of China compares to its industry, its ROCE in absolute terms is low; especially compared to the ~1.6% available in government bonds. There are potentially more appealing investments elsewhere.
Aluminum Corporation of China has an ROCE of 3.1%, but it didn't have an ROCE 3 years ago, since it was unprofitable. That suggests the business has returned to profitability. You can click on the image below to see (in greater detail) how Aluminum Corporation of China's past growth compares to other companies.
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. We note Aluminum Corporation of China could be considered a cyclical business. Future performance is what matters, and you can see analyst predictions in our free report on analyst forecasts for the company.
What Are Current Liabilities, And How Do They Affect Aluminum Corporation of China's ROCE?
Current liabilities are short term bills and invoices that need to be paid in 12 months or less. Due to the way ROCE is calculated, a high level of current liabilities makes a company look as though it has less capital employed, and thus can (sometimes unfairly) boost the ROCE. To counteract this, we check if a company has high current liabilities, relative to its total assets.
Aluminum Corporation of China has total liabilities of CN¥73b and total assets of CN¥207b. As a result, its current liabilities are equal to approximately 35% of its total assets. With a medium level of current liabilities boosting the ROCE a little, Aluminum Corporation of China's low ROCE is unappealing.
The Bottom Line On Aluminum Corporation of China's ROCE
There are likely better investments out there. Of course, you might also be able to find a better stock than Aluminum Corporation of China. So you may wish to see this free collection of other companies that have grown earnings strongly.
If you like to buy stocks alongside management, then you might just love this free list of companies. (Hint: insiders have been buying them).
If you spot an error that warrants correction, please contact the editor at email@example.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.