Capital Allocation Trends At CF Energy (CVE:CFY) Aren't Ideal

Finding a business that has the potential to grow substantially is not easy, but it is possible if we look at a few key financial metrics. Typically, we'll want to notice a trend of growing return on capital employed (ROCE) and alongside that, an expanding base of capital employed. If you see this, it typically means it's a company with a great business model and plenty of profitable reinvestment opportunities. In light of that, when we looked at CF Energy (CVE:CFY) and its ROCE trend, we weren't exactly thrilled.

Return On Capital Employed (ROCE): What Is It?

For those who don't know, ROCE is a measure of a company's yearly pre-tax profit (its return), relative to the capital employed in the business. Analysts use this formula to calculate it for CF Energy:

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

0.025 = CN¥21m ÷ (CN¥1.2b - CN¥391m) (Based on the trailing twelve months to March 2023).

Therefore, CF Energy has an ROCE of 2.5%. Ultimately, that's a low return and it under-performs the Gas Utilities industry average of 5.3%.

See our latest analysis for CF Energy

Historical performance is a great place to start when researching a stock so above you can see the gauge for CF Energy's ROCE against it's prior returns. If you want to delve into the historical earnings, revenue and cash flow of CF Energy, check out these free graphs here.

What Does the ROCE Trend For CF Energy Tell Us?

In terms of CF Energy's historical ROCE movements, the trend isn't fantastic. Over the last five years, returns on capital have decreased to 2.5% from 15% five years ago. Meanwhile, the business is utilizing more capital but this hasn't moved the needle much in terms of sales in the past 12 months, so this could reflect longer term investments. It may take some time before the company starts to see any change in earnings from these investments.

The Bottom Line

Bringing it all together, while we're somewhat encouraged by CF Energy's reinvestment in its own business, we're aware that returns are shrinking. And investors may be expecting the fundamentals to get a lot worse because the stock has crashed 73% over the last five years. In any case, the stock doesn't have these traits of a multi-bagger discussed above, so if that's what you're looking for, we think you'd have more luck elsewhere.

One more thing: We've identified 5 warning signs with CF Energy (at least 3 which make us uncomfortable) , and understanding them would certainly be useful.

If you want to search for solid companies with great earnings, check out this free list of companies with good balance sheets and impressive returns on equity.

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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.