Today we are going to look at Winson Holdings Hong Kong Limited (HKG:8421) to see whether it might be an attractive investment prospect. To be precise, we'll consider its Return On Capital Employed (ROCE), as that will inform our view of the quality of the business.

Firstly, we'll go over how we calculate ROCE. Then we'll compare its ROCE to similar companies. And finally, we'll look at how its current liabilities are impacting 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. In general, businesses with a higher ROCE are usually better quality. Ultimately, it is a useful but imperfect metric. 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?

The formula for calculating the return on capital employed is:

Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)

Or for Winson Holdings Hong Kong:

0.21 = HK$29m ÷ (HK$202m - HK$65m) (Based on the trailing twelve months to December 2019.)

So, Winson Holdings Hong Kong has an ROCE of 21%.

View our latest analysis for Winson Holdings Hong Kong

Is Winson Holdings Hong Kong's ROCE Good?

ROCE is commonly used for comparing the performance of similar businesses. Using our data, we find that Winson Holdings Hong Kong's ROCE is meaningfully better than the 12% average in the Commercial Services industry. I think that's good to see, since it implies the company is better than other companies at making the most of its capital. Putting aside its position relative to its industry for now, in absolute terms, Winson Holdings Hong Kong's ROCE is currently very good.

Winson Holdings Hong Kong's current ROCE of 21% is lower than 3 years ago, when the company reported a 38% ROCE. So investors might consider if it has had issues recently. The image below shows how Winson Holdings Hong Kong'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. 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. If Winson Holdings Hong Kong is cyclical, it could make sense to check out this free graph of past earnings, revenue and cash flow.

How Winson Holdings Hong Kong's Current Liabilities Impact Its ROCE

Liabilities, such as supplier bills and bank overdrafts, are referred to as current liabilities if they 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.

Winson Holdings Hong Kong has total assets of HK$202m and current liabilities of HK$65m. Therefore its current liabilities are equivalent to approximately 32% of its total assets. Winson Holdings Hong Kong has a medium level of current liabilities, boosting its ROCE somewhat.

Our Take On Winson Holdings Hong Kong's ROCE

Despite this, it reports a high ROCE, and may be worth investigating further. Winson Holdings Hong Kong 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.

I will like Winson Holdings Hong Kong better if I see some big insider buys. While we wait, check out this free list of growing companies with considerable, recent, insider buying.

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.