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Today we’ll look at Polski Koncern Naftowy ORLEN Spólka Akcyjna (WSE:PKN) 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. Next, we’ll compare it to others in its industry. Last but not least, we’ll look at what impact its current liabilities have on its ROCE.
What is Return On Capital Employed (ROCE)?
ROCE measures the ‘return’ (pre-tax profit) a company generates from capital employed in its business. In general, businesses with a higher ROCE are usually better quality. In brief, it is a useful tool, but it is not without drawbacks. Renowned investment researcher Michael Mauboussin has suggested that a high ROCE can indicate that ‘one dollar invested in the company generates value of more than one dollar’.
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 Polski Koncern Naftowy ORLEN Spólka Akcyjna:
0.12 = zł6.0b ÷ (zł69b – zł18b) (Based on the trailing twelve months to March 2019.)
So, Polski Koncern Naftowy ORLEN Spólka Akcyjna has an ROCE of 12%.
Does Polski Koncern Naftowy ORLEN Spólka Akcyjna Have A Good ROCE?
ROCE is commonly used for comparing the performance of similar businesses. We can see Polski Koncern Naftowy ORLEN Spólka Akcyjna’s ROCE is around the 11% average reported by the Oil and Gas industry. Separate from Polski Koncern Naftowy ORLEN Spólka Akcyjna’s performance relative to its industry, its ROCE in absolute terms looks satisfactory, and it may be worth researching in more depth.
It is important to remember that ROCE shows past performance, and is not necessarily predictive. Companies in cyclical industries can be difficult to understand using ROCE, as returns typically look high during boom times, and low during busts. ROCE is only a point-in-time measure. Given the industry it operates in, Polski Koncern Naftowy ORLEN Spólka Akcyjna 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 Polski Koncern Naftowy ORLEN Spólka Akcyjna.
What Are Current Liabilities, And How Do They Affect Polski Koncern Naftowy ORLEN Spólka Akcyjna’s ROCE?
Current liabilities are short term bills and invoices that need to be paid in 12 months or less. Due to the way ROCE is calculated, a high level of current liabilities makes a company look as though it has less capital employed, and thus can (sometimes unfairly) boost the ROCE. To counteract this, we check if a company has high current liabilities, relative to its total assets.
Polski Koncern Naftowy ORLEN Spólka Akcyjna has total liabilities of zł18b and total assets of zł69b. As a result, its current liabilities are equal to approximately 26% of its total assets. Low current liabilities are not boosting the ROCE too much.
What We Can Learn From Polski Koncern Naftowy ORLEN Spólka Akcyjna’s ROCE
With that in mind, Polski Koncern Naftowy ORLEN Spólka Akcyjna’s ROCE appears pretty good. Polski Koncern Naftowy ORLEN Spólka Akcyjna looks strong on this analysis, but there are plenty of other companies that could be a good opportunity . Here is a free list of companies growing earnings rapidly.
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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.