When we're researching a company, it's sometimes hard to find the warning signs, but there are some financial metrics that can help spot trouble early. Businesses in decline often have two underlying trends, firstly, a declining return on capital employed (ROCE) and a declining base of capital employed. Basically the company is earning less on its investments and it is also reducing its total assets. And from a first read, things don't look too good at Halliburton (NYSE:HAL), so let's see why.
Return On Capital Employed (ROCE): What is it?
If you haven't worked with ROCE before, it measures the 'return' (pre-tax profit) a company generates from capital employed in its business. The formula for this calculation on Halliburton is:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.027 = US$445m ÷ (US$21b - US$4.2b) (Based on the trailing twelve months to March 2021).
So, Halliburton has an ROCE of 2.7%. In absolute terms, that's a low return and it also under-performs the Energy Services industry average of 5.1%.
In the above chart we have measured Halliburton'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 Halliburton's ROCE Trend?
In terms of Halliburton's historical ROCE trend, it isn't fantastic. Unfortunately, returns have declined substantially over the last five years to the 2.7% we see today. What's equally concerning is that the amount of capital deployed in the business has shrunk by 38% over that same period. The combination of lower ROCE and less capital employed can indicate that a business is likely to be facing some competitive headwinds or seeing an erosion to its moat. If these underlying trends continue, we wouldn't be too optimistic going forward.
The Key Takeaway
In summary, it's unfortunate that Halliburton is shrinking its capital base and also generating lower returns. It should come as no surprise then that the stock has fallen 42% over the last five years, so it looks like investors are recognizing these changes. Unless there is a shift to a more positive trajectory in these metrics, we would look elsewhere.
If you're still interested in Halliburton it's worth checking out our FREE intrinsic value approximation to see if it's trading at an attractive price in other respects.
For those who like to invest in solid companies, check out this free list of companies with solid balance sheets and high returns on equity.
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