If we want to find a stock that could multiply over the long term, what are the underlying trends we should look for? Amongst other things, we'll want to see two things; firstly, a growing return on capital employed (ROCE) and secondly, an expansion in the company's amount of capital employed. This shows us that it's a compounding machine, able to continually reinvest its earnings back into the business and generate higher returns. So when we looked at Gibson Energy (TSE:GEI) and its trend of ROCE, we really liked what we saw.
Understanding Return On Capital Employed (ROCE)
If you haven't worked with ROCE before, it measures the 'return' (pre-tax profit) a company generates from capital employed in its business. To calculate this metric for Gibson Energy, this is the formula:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.084 = CA$213m ÷ (CA$3.3b - CA$764m) (Based on the trailing twelve months to September 2021).
So, Gibson Energy has an ROCE of 8.4%. On its own that's a low return, but compared to the average of 6.3% generated by the Oil and Gas industry, it's much better.
Above you can see how the current ROCE for Gibson Energy compares to its prior returns on capital, but there's only so much you can tell from the past. If you'd like, you can check out the forecasts from the analysts covering Gibson Energy here for free.
What The Trend Of ROCE Can Tell Us
Shareholders will be relieved that Gibson Energy has broken into profitability. While the business was unprofitable in the past, it's now turned things around and is earning 8.4% on its capital. Interestingly, the capital employed by the business has remained relatively flat, so these higher returns are either from prior investments paying off or increased efficiencies. So while we're happy that the business is more efficient, just keep in mind that could mean that going forward the business is lacking areas to invest internally for growth. So if you're looking for high growth, you'll want to see a business's capital employed also increasing.
To sum it up, Gibson Energy is collecting higher returns from the same amount of capital, and that's impressive. And with a respectable 70% awarded to those who held the stock over the last five years, you could argue that these developments are starting to get the attention they deserve. Therefore, we think it would be worth your time to check if these trends are going to continue.
Since virtually every company faces some risks, it's worth knowing what they are, and we've spotted 4 warning signs for Gibson Energy (of which 2 can't be ignored!) that you should know about.
While Gibson Energy may not currently earn the highest returns, we've compiled a list of companies that currently earn more than 25% return on equity. Check out this free list here.
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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.