In This Article:
Today we are going to look at Vermilion Energy Inc. (TSE:VET) to see whether it might be an attractive investment prospect. 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. Finally, we'll look at how its current liabilities affect 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. All else being equal, a better business will have a higher ROCE. Ultimately, it is a useful but imperfect metric. 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'.
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 Vermilion Energy:
0.079 = CA$447m ÷ (CA$6.0b - CA$376m) (Based on the trailing twelve months to June 2019.)
Therefore, Vermilion Energy has an ROCE of 7.9%.
Check out our latest analysis for Vermilion Energy
Does Vermilion Energy Have A Good ROCE?
One way to assess ROCE is to compare similar companies. Using our data, we find that Vermilion Energy's ROCE is meaningfully better than the 5.9% 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. Aside from the industry comparison, Vermilion Energy's ROCE is mediocre in absolute terms, considering the risk of investing in stocks versus the safety of a bank account. Investors may wish to consider higher-performing investments.
Vermilion Energy delivered an ROCE of 7.9%, which is better than 3 years ago, as was making losses back then. That suggests the business has returned to profitability. The image below shows how Vermilion Energy's ROCE compares to its industry, and you can click it to see more detail on its past growth.
When considering this metric, keep in mind that it is backwards looking, and not necessarily predictive. Companies in cyclical industries can be difficult to understand using ROCE, as returns typically look high during boom times, and low during busts. ROCE is only a point-in-time measure. Given the industry it operates in, Vermilion Energy 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 Vermilion Energy.