Today we'll evaluate Elinoil Hellenic Petroleum Company S.A. (ATH:ELIN) to determine whether it could have potential as an investment idea. 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.
Firstly, we'll go over how we calculate ROCE. Second, we'll look at its ROCE compared to similar companies. Last but not least, we'll look at what impact its current liabilities have on its ROCE.
Understanding Return On Capital Employed (ROCE)
ROCE measures the amount of pre-tax profits a company can generate from the capital employed in its business. Generally speaking a higher ROCE is better. Overall, it is a valuable metric that has its flaws. 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'.
So, How Do We Calculate ROCE?
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 Elinoil Hellenic Petroleum:
0.15 = €8.3m ÷ (€209m - €154m) (Based on the trailing twelve months to December 2018.)
Therefore, Elinoil Hellenic Petroleum has an ROCE of 15%.
Is Elinoil Hellenic Petroleum's ROCE Good?
When making comparisons between similar businesses, investors may find ROCE useful. In our analysis, Elinoil Hellenic Petroleum's ROCE is meaningfully higher than the 10% average in the Oil and Gas industry. We would consider this a positive, as it suggests it is using capital more effectively than other similar companies. Independently of how Elinoil Hellenic Petroleum compares to its industry, its ROCE in absolute terms appears decent, and the company may be worthy of closer investigation.
You can click on the image below to see (in greater detail) how Elinoil Hellenic Petroleum's past growth compares to other companies.
Remember that this metric is backwards looking - it shows what has happened in the past, and does not accurately predict the future. ROCE can be misleading for companies in cyclical industries, with returns looking impressive during the boom times, but very weak during the busts. This is because ROCE only looks at one year, instead of considering returns across a whole cycle. Remember that most companies like Elinoil Hellenic Petroleum are cyclical businesses. How cyclical is Elinoil Hellenic Petroleum? You can see for yourself by looking at this free graph of past earnings, revenue and cash flow.
How Elinoil Hellenic Petroleum's Current Liabilities Impact Its 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.
Elinoil Hellenic Petroleum has total liabilities of €154m and total assets of €209m. As a result, its current liabilities are equal to approximately 73% of its total assets. Elinoil Hellenic Petroleum has a relatively high level of current liabilities, boosting its ROCE meaningfully.
Our Take On Elinoil Hellenic Petroleum's ROCE
The ROCE would not look as appealing if the company had fewer current liabilities. Elinoil Hellenic Petroleum looks strong on this analysis, but there are plenty of other companies that could be a good opportunity . Here is a free list of companies growing earnings rapidly.
I will like Elinoil Hellenic Petroleum 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 email@example.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.