Parex Resources (TSE:PXT) Knows How To Allocate Capital Effectively
If you're not sure where to start when looking for the next multi-bagger, there are a few key trends you should keep an eye out for. Firstly, we'll want to see a proven return on capital employed (ROCE) that is increasing, and secondly, an expanding base of capital employed. Basically this means that a company has profitable initiatives that it can continue to reinvest in, which is a trait of a compounding machine. And in light of that, the trends we're seeing at Parex Resources' (TSE:PXT) look very promising so lets take a look.
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 Parex Resources:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.27 = US$399m ÷ (US$1.7b - US$201m) (Based on the trailing twelve months to September 2021).
So, Parex Resources has an ROCE of 27%. In absolute terms that's a great return and it's even better than the Oil and Gas industry average of 6.3%.
View our latest analysis for Parex Resources
Above you can see how the current ROCE for Parex Resources compares to its prior returns on capital, but there's only so much you can tell from the past. If you'd like to see what analysts are forecasting going forward, you should check out our free report for Parex Resources.
What The Trend Of ROCE Can Tell Us
Parex Resources has recently broken into profitability so their prior investments seem to be paying off. Shareholders would no doubt be pleased with this because the business was loss-making five years ago but is is now generating 27% on its capital. And unsurprisingly, like most companies trying to break into the black, Parex Resources is utilizing 72% more capital than it was five years ago. This can tell us that the company has plenty of reinvestment opportunities that are able to generate higher returns.
In Conclusion...
To the delight of most shareholders, Parex Resources has now broken into profitability. Investors may not be impressed by the favorable underlying trends yet because over the last five years the stock has only returned 28% to shareholders. Given that, we'd look further into this stock in case it has more traits that could make it multiply in the long term.
One more thing to note, we've identified 1 warning sign with Parex Resources and understanding it should be part of your investment process.
High returns are a key ingredient to strong performance, so check out our free list ofstocks 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.
