GP Petroleums (NSE:GULFPETRO) Could Be Struggling To Allocate Capital

Did you know there are some financial metrics that can provide clues of a potential multi-bagger? 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. This shows us that it's a compounding machine, able to continually reinvest its earnings back into the business and generate higher returns. However, after briefly looking over the numbers, we don't think GP Petroleums (NSE:GULFPETRO) has the makings of a multi-bagger going forward, but let's have a look at why that may be.

What is 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. Analysts use this formula to calculate it for GP Petroleums:

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

0.079 = ₹191m ÷ (₹3.2b - ₹814m) (Based on the trailing twelve months to December 2021).

Therefore, GP Petroleums has an ROCE of 7.9%. In absolute terms, that's a low return and it also under-performs the Oil and Gas industry average of 10%.

View our latest analysis for GP Petroleums

Historical performance is a great place to start when researching a stock so above you can see the gauge for GP Petroleums' ROCE against it's prior returns. If you're interested in investigating GP Petroleums' past further, check out this free graph of past earnings, revenue and cash flow.

What Can We Tell From GP Petroleums' ROCE Trend?

On the surface, the trend of ROCE at GP Petroleums doesn't inspire confidence. Around five years ago the returns on capital were 18%, but since then they've fallen to 7.9%. However, given capital employed and revenue have both increased it appears that the business is currently pursuing growth, at the consequence of short term returns. And if the increased capital generates additional returns, the business, and thus shareholders, will benefit in the long run.

On a side note, GP Petroleums has done well to pay down its current liabilities to 25% of total assets. So we could link some of this to the decrease in ROCE. Effectively this means their suppliers or short-term creditors are funding less of the business, which reduces some elements of risk. Some would claim this reduces the business' efficiency at generating ROCE since it is now funding more of the operations with its own money.

The Bottom Line On GP Petroleums' ROCE

While returns have fallen for GP Petroleums in recent times, we're encouraged to see that sales are growing and that the business is reinvesting in its operations. However, despite the promising trends, the stock has fallen 43% over the last five years, so there might be an opportunity here for astute investors. As a result, we'd recommend researching this stock further to uncover what other fundamentals of the business can show us.

If you want to know some of the risks facing GP Petroleums we've found 2 warning signs (1 is concerning!) that you should be aware of before investing here.

While GP Petroleums 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.