Eastman Chemical (NYSE:EMN) Is Experiencing Growth In Returns On Capital

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. One common approach is to try and find a company with returns on capital employed (ROCE) that are increasing, in conjunction with a growing amount of capital employed. This shows us that it's a compounding machine, able to continually reinvest its earnings back into the business and generate higher returns. Speaking of which, we noticed some great changes in Eastman Chemical's (NYSE:EMN) returns on capital, so let's have a look.

Return On Capital Employed (ROCE): What Is It?

Just to clarify if you're unsure, ROCE is a metric for evaluating how much pre-tax income (in percentage terms) a company earns on the capital invested in its business. The formula for this calculation on Eastman Chemical is:

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

0.15 = US$1.7b ÷ (US$15b - US$3.2b) (Based on the trailing twelve months to September 2022).

So, Eastman Chemical has an ROCE of 15%. In absolute terms, that's a pretty normal return, and it's somewhat close to the Chemicals industry average of 12%.

View our latest analysis for Eastman Chemical

Above you can see how the current ROCE for Eastman Chemical compares to its prior returns on capital, but there's only so much you can tell from the past. 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 Eastman Chemical's ROCE Trend?

Eastman Chemical is showing promise given that its ROCE is trending up and to the right. The figures show that over the last five years, ROCE has grown 35% whilst employing roughly the same amount of capital. So our take on this is that the business has increased efficiencies to generate these higher returns, all the while not needing to make any additional investments. The company is doing well in that sense, and it's worth investigating what the management team has planned for long term growth prospects.

On a side note, we noticed that the improvement in ROCE appears to be partly fueled by an increase in current liabilities. The current liabilities has increased to 21% of total assets, so the business is now more funded by the likes of its suppliers or short-term creditors. Keep an eye out for future increases because when the ratio of current liabilities to total assets gets particularly high, this can introduce some new risks for the business.

In Conclusion...

As discussed above, Eastman Chemical appears to be getting more proficient at generating returns since capital employed has remained flat but earnings (before interest and tax) are up. Since the stock has only returned 3.8% to shareholders over the last five years, the promising fundamentals may not be recognized yet by investors. So exploring more about this stock could uncover a good opportunity, if the valuation and other metrics stack up.

Eastman Chemical does come with some risks though, we found 2 warning signs in our investment analysis, and 1 of those shouldn't be ignored...

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.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.

This article by Simply Wall St is general in nature. We provide commentary based on historical data and analyst forecasts only using an unbiased methodology and our articles are not intended to be financial advice. It does not constitute a recommendation to buy or sell any stock, and does not take account of your objectives, or your financial situation. We aim to bring you long-term focused analysis driven by fundamental data. Note that our analysis may not factor in the latest price-sensitive company announcements or qualitative material. Simply Wall St has no position in any stocks mentioned.