Confidence Petroleum India's (NSE:CONFIPET) Returns On Capital Not Reflecting Well On The Business

What trends should we look for it we want to identify stocks that can multiply in value over the long term? One common approach is to try and find a company with returns on capital employed (ROCE) that are increasing, in conjunction with a growing amount of capital employed. Ultimately, this demonstrates that it's a business that is reinvesting profits at increasing rates of return. Having said that, from a first glance at Confidence Petroleum India (NSE:CONFIPET) we aren't jumping out of our chairs at how returns are trending, but let's have a deeper look.

Understanding Return On Capital Employed (ROCE)

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. The formula for this calculation on Confidence Petroleum India is:

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

0.082 = ₹1.5b ÷ (₹25b - ₹5.9b) (Based on the trailing twelve months to September 2024).

Thus, Confidence Petroleum India has an ROCE of 8.2%. Ultimately, that's a low return and it under-performs the Machinery industry average of 16%.

Check out our latest analysis for Confidence Petroleum India

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

What The Trend Of ROCE Can Tell Us

When we looked at the ROCE trend at Confidence Petroleum India, we didn't gain much confidence. Over the last five years, returns on capital have decreased to 8.2% 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.

On a side note, Confidence Petroleum India's current liabilities have increased over the last five years to 24% of total assets, effectively distorting the ROCE to some degree. If current liabilities hadn't increased as much as they did, the ROCE could actually be even lower. Keep an eye on this ratio, because the business could encounter some new risks if this metric gets too high.

The Key Takeaway

Bringing it all together, while we're somewhat encouraged by Confidence Petroleum India's reinvestment in its own business, we're aware that returns are shrinking. Investors must think there's better things to come because the stock has knocked it out of the park, delivering a 175% gain to shareholders who have held over the last five years. But if the trajectory of these underlying trends continue, we think the likelihood of it being a multi-bagger from here isn't high.

Confidence Petroleum India does have some risks though, and we've spotted 1 warning sign for Confidence Petroleum India that you might be interested in.

While Confidence Petroleum India 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.