Did you know there are some financial metrics that can provide clues of a potential multi-bagger? Firstly, we'd want to identify a growing return on capital employed (ROCE) and then alongside that, an ever-increasing base of capital employed. If you see this, it typically means it's a company with a great business model and plenty of profitable reinvestment opportunities. So when we looked at BP (LON:BP.) and its trend of ROCE, we really liked what we saw.
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. To calculate this metric for BP, this is the formula:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.14 = US$26b ÷ (US$299b - US$110b) (Based on the trailing twelve months to June 2022).
Therefore, BP has an ROCE of 14%. In absolute terms, that's a satisfactory return, but compared to the Oil and Gas industry average of 8.0% it's much better.
See our latest analysis for BP
In the above chart we have measured BP's prior ROCE against its prior performance, but the future is arguably more important. If you'd like to see what analysts are forecasting going forward, you should check out our free report for BP.
So How Is BP's ROCE Trending?
BP's ROCE growth is quite impressive. Looking at the data, we can see that even though capital employed in the business has remained relatively flat, the ROCE generated has risen by 404% over the last five years. 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. Effectively this means that suppliers or short-term creditors are now funding 37% of the business, which is more than it was five years ago. 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.
The Bottom Line
As discussed above, BP appears to be getting more proficient at generating returns since capital employed has remained flat but earnings (before interest and tax) are up. Investors may not be impressed by the favorable underlying trends yet because over the last five years the stock has only returned 21% to shareholders. So exploring more about this stock could uncover a good opportunity, if the valuation and other metrics stack up.