Ampol (ASX:ALD) Could Be Struggling To Allocate Capital

If you're looking for a multi-bagger, there's a few things to keep an eye out for. Typically, we'll want to notice a trend of growing return on capital employed (ROCE) and alongside that, an expanding base of capital employed. Basically this means that a company has profitable initiatives that it can continue to reinvest in, which is a trait of a compounding machine. Having said that, from a first glance at Ampol (ASX:ALD) we aren't jumping out of our chairs at how returns are trending, but let's have a deeper look.

What is Return On Capital Employed (ROCE)?

For those that aren't sure what ROCE is, it measures the amount of pre-tax profits a company can generate from the capital employed in its business. To calculate this metric for Ampol, this is the formula:

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

0.15 = AU$880m ÷ (AU$8.9b - AU$2.9b) (Based on the trailing twelve months to December 2021).

Thus, Ampol has an ROCE of 15%. In absolute terms, that's a satisfactory return, but compared to the Oil and Gas industry average of 12% it's much better.

See our latest analysis for Ampol

In the above chart we have measured Ampol's prior ROCE against its prior performance, but the future is arguably more important. If you're interested, you can view the analysts predictions in our free report on analyst forecasts for the company.

So How Is Ampol's ROCE Trending?

On the surface, the trend of ROCE at Ampol doesn't inspire confidence. Over the last five years, returns on capital have decreased to 15% from 24% five years ago. Although, given both revenue and the amount of assets employed in the business have increased, it could suggest the company is investing in growth, and the extra capital has led to a short-term reduction in ROCE. If these investments prove successful, this can bode very well for long term stock performance.

The Bottom Line On Ampol's ROCE

While returns have fallen for Ampol in recent times, we're encouraged to see that sales are growing and that the business is reinvesting in its operations. In light of this, the stock has only gained 25% over the last five years. Therefore we'd recommend looking further into this stock to confirm if it has the makings of a good investment.

One more thing to note, we've identified 1 warning sign with Ampol and understanding this should be part of your investment process.

While Ampol isn't earning the highest return, check out this free list of companies that are earning high returns on equity with solid balance sheets.

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This article by Simply Wall St is general in nature. We provide commentary based on historical data and analyst forecasts only using an unbiased methodology and our articles are not intended to be financial advice. It does not constitute a recommendation to buy or sell any stock, and does not take account of your objectives, or your financial situation. We aim to bring you long-term focused analysis driven by fundamental data. Note that our analysis may not factor in the latest price-sensitive company announcements or qualitative material. Simply Wall St has no position in any stocks mentioned.