Is Whiting Petroleum Corporation (NYSE:WLL) Investing Effectively In Its Business?

Today we are going to look at Whiting Petroleum Corporation (NYSE:WLL) to see whether it might be an attractive investment prospect. In particular, we’ll consider its Return On Capital Employed (ROCE), as that can give us insight into how profitably the company is able to employ capital in its business.

Firstly, we’ll go over how we calculate ROCE. Next, we’ll compare it to others in its industry. Then we’ll determine how its current liabilities are affecting its ROCE.

Understanding Return On Capital Employed (ROCE)

ROCE is a measure of a company’s yearly pre-tax profit (its return), relative to the capital employed in the business. Generally speaking a higher ROCE is better. Overall, it is a valuable metric that has its flaws. 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 Whiting Petroleum:

0.078 = US$560m ÷ (US$7.8b – US$537m) (Based on the trailing twelve months to December 2018.)

So, Whiting Petroleum has an ROCE of 7.8%.

Check out our latest analysis for Whiting Petroleum

Is Whiting Petroleum’s ROCE Good?

ROCE is commonly used for comparing the performance of similar businesses. We can see Whiting Petroleum’s ROCE is around the 9.3% average reported by the Oil and Gas industry. Setting aside the industry comparison for now, Whiting Petroleum’s ROCE is mediocre in absolute terms, considering the risk of investing in stocks versus the safety of a bank account. Investors may wish to consider higher-performing investments.

Whiting Petroleum has an ROCE of 7.8%, but it didn’t have an ROCE 3 years ago, since it was unprofitable. This makes us wonder if the company is improving.

NYSE:WLL Past Revenue and Net Income, April 10th 2019
NYSE:WLL Past Revenue and Net Income, April 10th 2019

When considering this metric, keep in mind that it is backwards looking, and not necessarily predictive. ROCE can be misleading for companies in cyclical industries, with returns looking impressive during the boom times, but very weak during the busts. This is because ROCE only looks at one year, instead of considering returns across a whole cycle. Remember that most companies like Whiting Petroleum are cyclical businesses. Since the future is so important for investors, you should check out our free report on analyst forecasts for Whiting Petroleum.

How Whiting Petroleum’s Current Liabilities Impact Its ROCE

Current liabilities include invoices, such as supplier payments, short-term debt, or a tax bill, that need to be paid within 12 months. 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 counter this, investors can check if a company has high current liabilities relative to total assets.

Whiting Petroleum has total liabilities of US$537m and total assets of US$7.8b. As a result, its current liabilities are equal to approximately 6.9% of its total assets. Whiting Petroleum reports few current liabilities, which have a negligible impact on its unremarkable ROCE.

What We Can Learn From Whiting Petroleum’s ROCE

Whiting Petroleum looks like an ok business, but on this analysis it is not at the top of our buy list. But note: Whiting Petroleum may not be the best stock to buy. So take a peek at this free list of interesting companies with strong recent earnings growth (and a P/E ratio below 20).

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We aim to bring you long-term focused research analysis driven by fundamental data. Note that our analysis may not factor in the latest price-sensitive company announcements or qualitative material.

If you spot an error that warrants correction, please contact the editor at editorial-team@simplywallst.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.