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Will The ROCE Trend At AGL Energy (ASX:AGL) Continue?

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What are the early trends we should look for to identify a stock that could multiply in value over the long term? Typically, we'll want to notice a trend of growing return on capital employed (ROCE) and alongside that, an expanding 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 on that note, AGL Energy (ASX:AGL) looks quite promising in regards to its trends of return on capital.

Understanding Return On Capital Employed (ROCE)

For those who don't know, ROCE is a measure of a company's yearly pre-tax profit (its return), relative to the capital employed in the business. The formula for this calculation on AGL Energy is:

Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)

0.10 = AU$1.3b ÷ (AU$15b - AU$2.4b) (Based on the trailing twelve months to June 2020).

Therefore, AGL Energy has an ROCE of 10%. On its own, that's a standard return, however it's much better than the 4.9% generated by the Integrated Utilities industry.

Check out our latest analysis for AGL Energy

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Above you can see how the current ROCE for AGL Energy 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 AGL Energy.

How Are Returns Trending?

AGL Energy'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 67% over the last five years. Basically the business is generating higher returns from the same amount of capital and that is proof that there are improvements in the company's efficiencies. It's worth looking deeper into this though because while it's great that the business is more efficient, it might also mean that going forward the areas to invest internally for the organic growth are lacking.

The Bottom Line On AGL Energy's ROCE

In summary, we're delighted to see that AGL Energy has been able to increase efficiencies and earn higher rates of return on the same amount of capital. Investors may not be impressed by the favorable underlying trends yet because over the last five years the stock has only returned 2.9% to shareholders. So with that in mind, we think the stock deserves further research.

Since virtually every company faces some risks, it's worth knowing what they are, and we've spotted 2 warning signs for AGL Energy (of which 1 is a bit concerning!) that you should know about.

For those who like to invest in solid companies, check out this free list of companies with solid balance sheets and high returns on equity.

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. 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.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team@simplywallst.com.