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Today we’ll look at Marathon Oil Corporation (NYSE:MRO) and reflect on its potential as an investment. 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.
First up, we’ll look at what ROCE is and how we calculate it. Then we’ll compare its ROCE to similar companies. Finally, we’ll look at how its current liabilities affect 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. All else being equal, a better business will have a higher ROCE. Ultimately, it is a useful but imperfect metric. 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’.
How Do You Calculate Return On Capital Employed?
Analysts use this formula to calculate return on capital employed:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets – Current Liabilities)
Or for Marathon Oil:
0.057 = US$1.1b ÷ (US$21b – US$1.8b) (Based on the trailing twelve months to December 2018.)
So, Marathon Oil has an ROCE of 5.7%.
Is Marathon Oil’s ROCE Good?
One way to assess ROCE is to compare similar companies. Using our data, Marathon Oil’s ROCE appears to be around the 6.6% average of the Oil and Gas industry. Regardless of how Marathon Oil stacks up against its industry, its ROCE in absolute terms is quite low (especially compared to a bank account). It is likely that there are more attractive prospects out there.
Marathon Oil delivered an ROCE of 5.7%, which is better than 3 years ago, as was making losses back then. That suggests the business has returned to profitability.
When considering ROCE, bear in mind that it reflects the past and does not necessarily predict the future. ROCE can be deceptive for cyclical businesses, as returns can look incredible in boom times, and terribly low in downturns. ROCE is, after all, simply a snap shot of a single year. Given the industry it operates in, Marathon Oil could be considered cyclical. Since the future is so important for investors, you should check out our free report on analyst forecasts for Marathon Oil.
Do Marathon Oil’s Current Liabilities Skew Its ROCE?
Current liabilities are short term bills and invoices that need to be paid in 12 months or less. The ROCE equation subtracts current liabilities from capital employed, so a company with a lot of current liabilities appears to have less capital employed, and a higher ROCE than otherwise. To check the impact of this, we calculate if a company has high current liabilities relative to its total assets.
Marathon Oil has total assets of US$21b and current liabilities of US$1.8b. Therefore its current liabilities are equivalent to approximately 8.6% of its total assets. With barely any current liabilities, there is minimal impact on Marathon Oil’s admittedly low ROCE.
What We Can Learn From Marathon Oil’s ROCE
Nonetheless, there may be better places to invest your capital. You might be able to find a better buy than Marathon Oil. If you want a selection of possible winners, check out this free list of interesting companies that trade on a P/E below 20 (but have proven they can grow earnings).
I will like Marathon Oil better if I see some big insider buys. While we wait, check out this free list of growing companies with considerable, recent, insider buying.
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 firstname.lastname@example.org. 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.