These Metrics Don't Make Formosa Petrochemical (TPE:6505) Look Too Strong

If you're looking at a mature business that's past the growth phase, what are some of the underlying trends that pop up? More often than not, we'll see a declining return on capital employed (ROCE) and a declining amount of capital employed. This indicates the company is producing less profit from its investments and its total assets are decreasing. So after glancing at the trends within Formosa Petrochemical (TPE:6505), we weren't too hopeful.

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. Analysts use this formula to calculate it for Formosa Petrochemical:

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

0.00003 = NT$12m ÷ (NT$349b - NT$25b) (Based on the trailing twelve months to September 2020).

Thus, Formosa Petrochemical has an ROCE of 0.003%. Ultimately, that's a low return and it under-performs the Oil and Gas industry average of 7.4%.

Check out our latest analysis for Formosa Petrochemical

In the above chart we have measured Formosa Petrochemical'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 Does the ROCE Trend For Formosa Petrochemical Tell Us?

In terms of Formosa Petrochemical's historical ROCE movements, the trend doesn't inspire confidence. To be more specific, the ROCE was 4.6% five years ago, but since then it has dropped noticeably. And on the capital employed front, the business is utilizing roughly the same amount of capital as it was back then. Companies that exhibit these attributes tend to not be shrinking, but they can be mature and facing pressure on their margins from competition. If these trends continue, we wouldn't expect Formosa Petrochemical to turn into a multi-bagger.

The Bottom Line On Formosa Petrochemical's ROCE

In summary, it's unfortunate that Formosa Petrochemical is generating lower returns from the same amount of capital. Yet despite these concerning fundamentals, the stock has performed strongly with a 45% return over the last five years, so investors appear very optimistic. Regardless, we don't feel too comfortable with the fundamentals so we'd be steering clear of this stock for now.

On a final note, we found 2 warning signs for Formosa Petrochemical (1 is a bit unpleasant) you should be aware of.

While Formosa Petrochemical may not currently earn the highest returns, we've compiled a list of companies that currently earn more than 25% return on equity. Check out this free list here.

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