Returns On Capital Signal Tricky Times Ahead For Hindustan Petroleum (NSE:HINDPETRO)

What trends should we look for it we want to identify stocks that can multiply in value over the long term? Firstly, we'll want to see a proven return on capital employed (ROCE) that is increasing, and secondly, an expanding base of capital employed. Ultimately, this demonstrates that it's a business that is reinvesting profits at increasing rates of return. However, after investigating Hindustan Petroleum (NSE:HINDPETRO), we don't think it's current trends fit the mold of a multi-bagger.

What is 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. To calculate this metric for Hindustan Petroleum, this is the formula:

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

0.12 = ₹90b ÷ (₹1.4t - ₹642b) (Based on the trailing twelve months to December 2021).

So, Hindustan Petroleum has an ROCE of 12%. That's a relatively normal return on capital, and it's around the 9.9% generated by the Oil and Gas industry.

View our latest analysis for Hindustan Petroleum

In the above chart we have measured Hindustan Petroleum's prior ROCE against its prior performance, but the future is arguably more important. If you'd like to see what analysts are forecasting going forward, you should check out our free report for Hindustan Petroleum.

The Trend Of ROCE

On the surface, the trend of ROCE at Hindustan Petroleum doesn't inspire confidence. Around five years ago the returns on capital were 20%, but since then they've fallen to 12%. Although, given both revenue and the amount of assets employed in the business have increased, it could suggest the company is investing in growth, and the extra capital has led to a short-term reduction in ROCE. If these investments prove successful, this can bode very well for long term stock performance.

On a separate but related note, it's important to know that Hindustan Petroleum has a current liabilities to total assets ratio of 46%, which we'd consider pretty high. This can bring about some risks because the company is basically operating with a rather large reliance on its suppliers or other sorts of short-term creditors. While it's not necessarily a bad thing, it can be beneficial if this ratio is lower.

The Bottom Line

While returns have fallen for Hindustan Petroleum in recent times, we're encouraged to see that sales are growing and that the business is reinvesting in its operations. In light of this, the stock has only gained 4.4% over the last five years. Therefore we'd recommend looking further into this stock to confirm if it has the makings of a good investment.

On a separate note, we've found 2 warning signs for Hindustan Petroleum you'll probably want to know about.

For those who like to invest in solid companies, check out this free list of companies with solid balance sheets and high returns on equity.

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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.