Capital Allocation Trends At GP Petroleums (NSE:GULFPETRO) Aren't Ideal

Did you know there are some financial metrics that can provide clues of a potential multi-bagger? 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. Basically this means that a company has profitable initiatives that it can continue to reinvest in, which is a trait of a compounding machine. In light of that, when we looked at GP Petroleums (NSE:GULFPETRO) and its ROCE trend, we weren't exactly thrilled.

What Is 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 GP Petroleums, this is the formula:

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

0.11 = ₹342m ÷ (₹3.7b - ₹665m) (Based on the trailing twelve months to December 2023).

Thus, GP Petroleums has an ROCE of 11%. In absolute terms, that's a pretty standard return but compared to the Oil and Gas industry average it falls behind.

View our latest analysis for GP Petroleums

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'd like to look at how GP Petroleums has performed in the past in other metrics, you can view this free graph of GP Petroleums' past earnings, revenue and cash flow.

The Trend Of ROCE

When we looked at the ROCE trend at GP Petroleums, we didn't gain much confidence. Around five years ago the returns on capital were 16%, but since then they've fallen to 11%. Given the business is employing more capital while revenue has slipped, this is a bit concerning. If this were to continue, you might be looking at a company that is trying to reinvest for growth but is actually losing market share since sales haven't increased.

On a side note, GP Petroleums has done well to pay down its current liabilities to 18% of total assets. That could partly explain why the ROCE has dropped. Effectively this means their suppliers or short-term creditors are funding less of the business, which reduces some elements of risk. Since the business is basically funding more of its operations with it's own money, you could argue this has made the business less efficient at generating ROCE.

The Bottom Line

In summary, we're somewhat concerned by GP Petroleums' diminishing returns on increasing amounts of capital. In spite of that, the stock has delivered a 19% return to shareholders who held over the last five years. Regardless, we don't like the trends as they are and if they persist, we think you might find better investments elsewhere.

Like most companies, GP Petroleums does come with some risks, and we've found 2 warning signs that you should be aware of.

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.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.

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.