Today we’ll look at Aker BP ASA (OB:AKERBP) and reflect on its potential as an investment. Specifically, we’ll consider its Return On Capital Employed (ROCE), since that will give us an insight into how efficiently the business can generate profits from the capital it requires.
First, we’ll go over how we calculate ROCE. Then we’ll compare its ROCE to similar companies. Finally, we’ll look at how its current liabilities affect its ROCE.
Understanding Return On Capital Employed (ROCE)
ROCE measures the ‘return’ (pre-tax profit) a company generates from capital employed in its business. All else being equal, a better business will have a higher ROCE. Ultimately, it is a useful but imperfect metric. Author Edwin Whiting says to be careful when comparing the ROCE of different businesses, since ‘No two businesses are exactly alike.’
So, How Do We Calculate ROCE?
The formula for calculating the return on capital employed is:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets – Current Liabilities)
Or for Aker BP:
0.19 = US$1.8b ÷ (US$11b – US$1.4b) (Based on the trailing twelve months to December 2018.)
Therefore, Aker BP has an ROCE of 19%.
Is Aker BP’s ROCE Good?
When making comparisons between similar businesses, investors may find ROCE useful. Using our data, Aker BP’s ROCE appears to be around the 17% average of the Oil and Gas industry. Independently of how Aker BP compares to its industry, its ROCE in absolute terms appears decent, and the company may be worthy of closer investigation.
Our data shows that Aker BP currently has an ROCE of 19%, compared to its ROCE of 9.2% 3 years ago. This makes us think about whether the company has been reinvesting shrewdly.
Remember that this metric is backwards looking – it shows what has happened in the past, and does not accurately predict the future. ROCE can be deceptive for cyclical businesses, as returns can look incredible in boom times, and terribly low in downturns. This is because ROCE only looks at one year, instead of considering returns across a whole cycle. Given the industry it operates in, Aker BP could be considered cyclical. What happens in the future is pretty important for investors, so we have prepared a free report on analyst forecasts for Aker BP.
What Are Current Liabilities, And How Do They Affect Aker BP’s ROCE?
Short term (or current) liabilities, are things like supplier invoices, overdrafts, or tax bills that need to be paid within 12 months. The ROCE equation subtracts current liabilities from capital employed, so a company with a lot of current liabilities appears to have less capital employed, and a higher ROCE than otherwise. To counter this, investors can check if a company has high current liabilities relative to total assets.
Aker BP has total liabilities of US$1.4b and total assets of US$11b. As a result, its current liabilities are equal to approximately 13% of its total assets. Current liabilities are minimal, limiting the impact on ROCE.
What We Can Learn From Aker BP’s ROCE
Overall, Aker BP has a decent ROCE and could be worthy of further research. Aker BP shapes up well under this analysis, but it is far from the only business delivering excellent numbers . You might also want to check this free collection of companies delivering excellent earnings growth.
If you are like me, then you will not want to miss this free list of growing companies that insiders are buying.
We aim to bring you long-term focused research analysis driven by fundamental data. Note that our analysis may not factor in the latest price-sensitive company announcements or qualitative material.
If you spot an error that warrants correction, please contact the editor at email@example.com. This article by Simply Wall St is general in nature. It does not constitute a recommendation to buy or sell any stock, and does not take account of your objectives, or your financial situation. Simply Wall St has no position in the stocks mentioned. Thank you for reading.