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Haier Electronics Group Co. Ltd. (SEHK: 1169) is a leading manufacturer of washing machines and water heaters in China. Its products are sold under Haier Group brands in over 100 countries.
The company’s stock price has performed extraordinarily well over the last decade, up from about HK$3.40 to HK$22.30. Given such strong performance, investors will naturally be interested in the company and what drove its rise.
Personally, I’m particularly interested in knowing one thing – does it have a high-quality business?
This question is important. If Haier Electronics has a high-quality business, this could be an investment opportunity. Unfortunately, there’s no easy answer to the question. But, a simple metric can help shed some light on this: return on invested capital (ROIC).
A brief introduction of ROIC
In a previous article, I had explained how to use the return on invested capital (or ROIC) to evaluate the quality of a business.
Generally speaking, a high ROIC will mean a high-quality business while a low ROIC will point to a business of low quality. This is important for investors as a stock’s performance is often tied to the performance of its underlying business over the longer term.
The simple idea behind the ROIC is that a business with a higher ROIC requires less capital to generate a profit, and it thus gives investors a higher return per dollar that is invested in the business.
Here’s a table showing how Haier Electronics’s ROIC looks like (I had used numbers from its fiscal year ended 31 December 2018):
Source: Haier Electronics 2018 Financial Results
In its fiscal year ended 31 December 2018 (FY2018), Haier Electronics generated an ROIC of 41.9%. This means that for every RMB 1 of capital invested in the business, Haier Electronics earned RMB 0.419 in profit.
The company’s ROIC of 41.9% is above average, based on the ROICs of many other companies I have studied in the past. This suggests that Haier Electronics has a very high-quality business. Here, investors should note that the high ROIC is driven mainly by two factors.
Firstly, Haier Electronics funds a significant portion of its working capital requirements with payables. This reduces the capital needs of the company. Secondly, it has a high revenue turnover (over tangible capital employed) of close to eight times.
Putting both factors together, Haier Electronics manages to generate a high ROIC despite its low operating profit margin of 5.7%.
The information provided is for general information purposes only and is not intended to be personalised investment or financial advice. Motley Fool Hong Kong contributor Lawrence Nga doesn’t own shares in any companies mentioned.