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

If we want to find a potential multi-bagger, often there are underlying trends that can provide clues. 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. If you see this, it typically means it's a company with a great business model and plenty of profitable reinvestment opportunities. Although, when we looked at CF Energy (CVE:CFY), it didn't seem to tick all of these boxes.

Understanding 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 CF Energy, this is the formula:

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

0.035 = CN¥32m ÷ (CN¥1.3b - CN¥407m) (Based on the trailing twelve months to June 2023).

So, CF Energy has an ROCE of 3.5%. Ultimately, that's a low return and it under-performs the Gas Utilities industry average of 5.4%.

View our latest analysis for CF Energy

While the past is not representative of the future, it can be helpful to know how a company has performed historically, which is why we have this chart above. If you're interested in investigating CF Energy's past further, check out this free graph of past earnings, revenue and cash flow.

What Can We Tell From CF Energy's ROCE Trend?

On the surface, the trend of ROCE at CF Energy doesn't inspire confidence. Over the last five years, returns on capital have decreased to 3.5% from 13% five years ago. On the other hand, the company has been employing more capital without a corresponding improvement in sales in the last year, which could suggest these investments are longer term plays. It may take some time before the company starts to see any change in earnings from these investments.

The Bottom Line On CF Energy's ROCE

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. It seems that investors have little hope of these trends getting any better and that may have partly contributed to the stock collapsing 72% in the last five years. On the whole, we aren't too inspired by the underlying trends and we think there may be better chances of finding a multi-bagger elsewhere.

Like most companies, CF Energy does come with some risks, and we've found 4 warning signs that you should be aware of.

While CF 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.