What Does Callon Petroleum Company’s (NYSE:CPE) 8.5% ROCE Say About The Business?
Today we’ll look at Callon Petroleum Company (NYSE:CPE) and reflect on its potential as an investment. Specifically, we’ll consider its Return On Capital Employed (ROCE), since that will give us an insight into how efficiently the business can generate profits from the capital it requires.
First of all, we’ll work out how to calculate ROCE. Second, we’ll look at its ROCE compared to similar companies. And finally, we’ll look at how its current liabilities are impacting its ROCE.
Return On Capital Employed (ROCE): What is it?
ROCE measures the ‘return’ (pre-tax profit) a company generates from capital employed in its business. In general, businesses with a higher ROCE are usually better quality. Overall, it is a valuable metric that has its flaws. Author Edwin Whiting says to be careful when comparing the ROCE of different businesses, since ‘No two businesses are exactly alike.’
How Do You Calculate Return On Capital Employed?
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 Callon Petroleum:
0.085 = US$313m ÷ (US$4.0b – US$315m) (Based on the trailing twelve months to December 2018.)
Therefore, Callon Petroleum has an ROCE of 8.5%.
Check out our latest analysis for Callon Petroleum
Is Callon Petroleum’s ROCE Good?
ROCE is commonly used for comparing the performance of similar businesses. It appears that Callon Petroleum’s ROCE is fairly close to the Oil and Gas industry average of 8.9%. Aside from the industry comparison, Callon Petroleum’s ROCE is mediocre in absolute terms, considering the risk of investing in stocks versus the safety of a bank account. It is possible that there are more rewarding investments out there.
Our data shows that Callon Petroleum currently has an ROCE of 8.5%, compared to its ROCE of 5.1% 3 years ago. This makes us wonder if the company is improving.
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. ROCE is only a point-in-time measure. Given the industry it operates in, Callon Petroleum could be considered cyclical. What happens in the future is pretty important for investors, so we have prepared a free report on analyst forecasts for Callon Petroleum.
What Are Current Liabilities, And How Do They Affect Callon Petroleum’s ROCE?
Liabilities, such as supplier bills and bank overdrafts, are referred to as current liabilities if they need to be paid within 12 months. Due to the way the ROCE equation works, having large bills due in the near term can make it look as though a company has less capital employed, and thus a higher ROCE than usual. To check the impact of this, we calculate if a company has high current liabilities relative to its total assets.
Callon Petroleum has total assets of US$4.0b and current liabilities of US$315m. As a result, its current liabilities are equal to approximately 7.9% of its total assets. With low levels of current liabilities, at least Callon Petroleum’s mediocre ROCE is not unduly boosted.
What We Can Learn From Callon Petroleum’s ROCE
Callon Petroleum looks like an ok business, but on this analysis it is not at the top of our buy list. Of course you might be able to find a better stock than Callon Petroleum. So you may wish to see this free collection of other companies that have grown earnings strongly.
If you are like me, then you will not want to miss this free list of growing companies that insiders are 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 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.
