Investors Met With Slowing Returns on Capital At Sasol (JSE:SOL)

What trends should we look for it we want to identify stocks that can multiply in value over the long term? 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. If you see this, it typically means it's a company with a great business model and plenty of profitable reinvestment opportunities. However, after briefly looking over the numbers, we don't think Sasol (JSE:SOL) has the makings of a multi-bagger going forward, but let's have a look at why that may be.

Understanding Return On Capital Employed (ROCE)

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. Analysts use this formula to calculate it for Sasol:

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

0.095 = R30b ÷ (R394b - R80b) (Based on the trailing twelve months to December 2021).

Therefore, Sasol has an ROCE of 9.5%. Ultimately, that's a low return and it under-performs the Chemicals industry average of 16%.

Check out our latest analysis for Sasol

Above you can see how the current ROCE for Sasol 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.

The Trend Of ROCE

There hasn't been much to report for Sasol's returns and its level of capital employed because both metrics have been steady for the past five years. It's not uncommon to see this when looking at a mature and stable business that isn't re-investing its earnings because it has likely passed that phase of the business cycle. So unless we see a substantial change at Sasol in terms of ROCE and additional investments being made, we wouldn't hold our breath on it being a multi-bagger. With fewer investment opportunities, it makes sense that Sasol has been paying out a decent 39% of its earnings to shareholders. Unless businesses have highly compelling growth opportunities, they'll typically return some money to shareholders.

Another point to note, we noticed the company has increased current liabilities over the last five years. This is intriguing because if current liabilities hadn't increased to 20% of total assets, this reported ROCE would probably be less than9.5% because total capital employed would be higher.The 9.5% ROCE could be even lower if current liabilities weren't 20% of total assets, because the the formula would show a larger base of total capital employed. With that in mind, just be wary if this ratio increases in the future, because if it gets particularly high, this brings with it some new elements of risk.

What We Can Learn From Sasol's ROCE

In summary, Sasol isn't compounding its earnings but is generating stable returns on the same amount of capital employed. Unsurprisingly then, the total return to shareholders over the last five years has been flat. All in all, the inherent trends aren't typical of multi-baggers, so if that's what you're after, we think you might have more luck elsewhere.

If you want to continue researching Sasol, you might be interested to know about the 4 warning signs that our analysis has discovered.

While Sasol isn't earning the highest return, check out this free list of companies that are earning high returns on equity with solid balance sheets.

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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.