Finding a business that has the potential to grow substantially is not easy, but it is possible if we look at a few key financial metrics. 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. Put simply, these types of businesses are compounding machines, meaning they are continually reinvesting their earnings at ever-higher rates of return. However, after investigating DNO (OB:DNO), we don't think it's current trends fit the mold of a multi-bagger.
Return On Capital Employed (ROCE): What Is It?
Just to clarify if you're unsure, ROCE is a metric for evaluating how much pre-tax income (in percentage terms) a company earns on the capital invested in its business. Analysts use this formula to calculate it for DNO:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.18 = US$432m ÷ (US$2.8b - US$445m) (Based on the trailing twelve months to December 2022).
Thus, DNO has an ROCE of 18%. In absolute terms, that's a satisfactory return, but compared to the Oil and Gas industry average of 12% it's much better.
Check out our latest analysis for DNO
In the above chart we have measured DNO's prior ROCE against its prior performance, but the future is arguably more important. If you're interested, you can view the analysts predictions in our free report on analyst forecasts for the company.
What Can We Tell From DNO's ROCE Trend?
On the surface, the trend of ROCE at DNO doesn't inspire confidence. To be more specific, ROCE has fallen from 40% over the last five years. 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. If these investments prove successful, this can bode very well for long term stock performance.
The Bottom Line
In summary, despite lower returns in the short term, we're encouraged to see that DNO is reinvesting for growth and has higher sales as a result. However, total returns to shareholders over the last five years have been flat, which could indicate these growth trends potentially aren't accounted for yet by investors. As a result, we'd recommend researching this stock further to uncover what other fundamentals of the business can show us.
One final note, you should learn about the 2 warning signs we've spotted with DNO (including 1 which makes us a bit uncomfortable) .
While DNO 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.
About OB:DNO
DNO
Engages in the exploration, development, and production of oil and gas assets in the Middle East, the North Sea, and West Africa.
Excellent balance sheet with proven track record.
