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. In a perfect world, we'd like to see a company investing more capital into its business and ideally the returns earned from that capital are also increasing. Basically this means that a company has profitable initiatives that it can continue to reinvest in, which is a trait of a compounding machine. So when we looked at Rabigh Refining and Petrochemical (TADAWUL:2380) and its trend of ROCE, we really liked what we saw.
What is 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. To calculate this metric for Rabigh Refining and Petrochemical, this is the formula:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.0043 = ر.س217m ÷ (ر.س72b - ر.س22b) (Based on the trailing twelve months to March 2021).
Therefore, Rabigh Refining and Petrochemical has an ROCE of 0.4%. Ultimately, that's a low return and it under-performs the Oil and Gas industry average of 8.0%.
Above you can see how the current ROCE for Rabigh Refining and Petrochemical compares to its prior returns on capital, but there's only so much you can tell from the past. If you'd like to see what analysts are forecasting going forward, you should check out our free report for Rabigh Refining and Petrochemical.
The Trend Of ROCE
We're delighted to see that Rabigh Refining and Petrochemical is reaping rewards from its investments and has now broken into profitability. The company was generating losses five years ago, but has managed to turn it around and as we saw earlier is now earning 0.4%, which is always encouraging. Interestingly, the capital employed by the business has remained relatively flat, so these higher returns are either from prior investments paying off or increased efficiencies. That being said, while an increase in efficiency is no doubt appealing, it'd be helpful to know if the company does have any investment plans going forward. So if you're looking for high growth, you'll want to see a business's capital employed also increasing.
On a side note, we noticed that the improvement in ROCE appears to be partly fueled by an increase in current liabilities. Effectively this means that suppliers or short-term creditors are now funding 30% of the business, which is more than it was five years ago. It's worth keeping an eye on this because as the percentage of current liabilities to total assets increases, some aspects of risk also increase.
In summary, we're delighted to see that Rabigh Refining and Petrochemical has been able to increase efficiencies and earn higher rates of return on the same amount of capital. Since the stock has returned a staggering 102% to shareholders over the last five years, it looks like investors are recognizing these changes. With that being said, we still think the promising fundamentals mean the company deserves some further due diligence.
One more thing to note, we've identified 2 warning signs with Rabigh Refining and Petrochemical and understanding these should be part of your investment process.
If you want to search for solid companies with great earnings, check out this free list of companies with good balance sheets and impressive returns on equity.
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