Hindustan Petroleum's (NSE:HINDPETRO) Returns On Capital Are Heading Higher

Did you know there are some financial metrics that can provide clues of a potential multi-bagger? Firstly, we'd want to identify a growing return on capital employed (ROCE) and then alongside that, an ever-increasing base of capital employed. Put simply, these types of businesses are compounding machines, meaning they are continually reinvesting their earnings at ever-higher rates of return. With that in mind, we've noticed some promising trends at Hindustan Petroleum (NSE:HINDPETRO) so let's look a bit deeper.

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. Analysts use this formula to calculate it for Hindustan Petroleum:

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

0.17 = ₹124b ÷ (₹1.3t - ₹624b) (Based on the trailing twelve months to March 2021).

Thus, Hindustan Petroleum has an ROCE of 17%. In absolute terms, that's a satisfactory return, but compared to the Oil and Gas industry average of 8.3% it's much better.

View our latest analysis for Hindustan Petroleum

Above you can see how the current ROCE for Hindustan Petroleum compares to its prior returns on capital, but there's only so much you can tell from the past. If you'd like, you can check out the forecasts from the analysts covering Hindustan Petroleum here for free.

The Trend Of ROCE

Hindustan Petroleum is displaying some positive trends. The data shows that returns on capital have increased substantially over the last five years to 17%. The amount of capital employed has increased too, by 68%. This can indicate that there's plenty of opportunities to invest capital internally and at ever higher rates, a combination that's common among multi-baggers.

Another thing to note, Hindustan Petroleum has a high ratio of current liabilities to total assets of 46%. This effectively means that suppliers (or short-term creditors) are funding a large portion of the business, so just be aware that this can introduce some elements of risk. Ideally we'd like to see this reduce as that would mean fewer obligations bearing risks.

Our Take On Hindustan Petroleum's ROCE

To sum it up, Hindustan Petroleum has proven it can reinvest in the business and generate higher returns on that capital employed, which is terrific. Investors may not be impressed by the favorable underlying trends yet because over the last five years the stock has only returned 24% to shareholders. So with that in mind, we think the stock deserves further research.

One more thing: We've identified 3 warning signs with Hindustan Petroleum (at least 1 which shouldn't be ignored) , and understanding them would certainly be useful.

While Hindustan Petroleum 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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