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Are RockRose Energy PLC’s Returns On Capital Worth Investigating?

Today we'll look at RockRose Energy PLC (LON:RRE) and reflect on its potential as an investment. To be precise, we'll consider its Return On Capital Employed (ROCE), as that will inform our view of the quality of the business.

First up, we'll look at what ROCE is and how we calculate it. 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.

What is 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. 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?

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 RockRose Energy:

0.07 = US$93m ÷ (US$1.5b - US$162m) (Based on the trailing twelve months to December 2019.)

Therefore, RockRose Energy has an ROCE of 7.0%.

See our latest analysis for RockRose Energy

Does RockRose Energy Have A Good ROCE?

One way to assess ROCE is to compare similar companies. We can see RockRose Energy's ROCE is around the 7.6% average reported by the Oil and Gas industry. Separate from how RockRose Energy stacks up against its industry, its ROCE in absolute terms is mediocre; relative to the returns on government bonds. It is possible that there are more rewarding investments out there.

RockRose Energy delivered an ROCE of 7.0%, which is better than 3 years ago, as was making losses back then. This makes us wonder if the company is improving. The image below shows how RockRose Energy's ROCE compares to its industry, and you can click it to see more detail on its past growth.

LSE:RRE Past Revenue and Net Income May 26th 2020
LSE:RRE Past Revenue and Net Income May 26th 2020

When considering this metric, keep in mind that it is backwards looking, and not necessarily predictive. ROCE can be deceptive for cyclical businesses, as returns can look incredible in boom times, and terribly low in downturns. ROCE is only a point-in-time measure. Given the industry it operates in, RockRose Energy could be considered cyclical. Future performance is what matters, and you can see analyst predictions in our free report on analyst forecasts for the company.

Do RockRose Energy'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 counter this, investors can check if a company has high current liabilities relative to total assets.

RockRose Energy has current liabilities of US$162m and total assets of US$1.5b. Therefore its current liabilities are equivalent to approximately 11% of its total assets. This is a modest level of current liabilities, which would only have a small effect on ROCE.

The Bottom Line On RockRose Energy's ROCE

If RockRose Energy continues to earn an uninspiring ROCE, there may be better places to invest. Of course, you might also be able to find a better stock than RockRose Energy. So you may wish to see this free collection of other companies that have grown earnings strongly.

For those who like to find winning investments this free list of growing companies with recent insider purchasing, could be just the ticket.

Love or hate this article? Concerned about the content? Get in touch with us directly. Alternatively, email 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. 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. Thank you for reading.

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