What trends should we look for it we want to identify stocks that can multiply in value over the long term? Amongst other things, we'll want to see two things; firstly, a growing return on capital employed (ROCE) and secondly, an expansion in the company's amount 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. So when we looked at the ROCE trend of Karoon Energy (ASX:KAR) we really liked what we saw.

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. To calculate this metric for Karoon Energy, this is the formula:

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

0.21 = US$210m ÷ (US$1.3b - US$257m) (Based on the trailing twelve months to December 2022).

So, Karoon Energy has an ROCE of 21%.  That's a fantastic return and not only that, it outpaces the average of 15% earned by companies in a similar industry.

Check out our latest analysis for Karoon Energy  roce

Above you can see how the current ROCE for Karoon 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 freereport for Karoon Energy.

What Does the ROCE Trend For Karoon Energy Tell Us?

The fact that Karoon Energy is now generating some pre-tax profits from its prior investments is very encouraging. The company was generating losses five years ago, but now it's earning 21% which is a sight for sore eyes. Not only that, but the company is utilizing 69% more capital than before, but that's to be expected from a company trying to break into profitability. We like this trend, because it tells us the company has profitable reinvestment opportunities available to it, and if it continues going forward that can lead to a multi-bagger performance.



On a side note, we noticed that the improvement in ROCE appears to be partly fueled by an increase in current liabilities. The current liabilities has increased to 20% of total assets, so the business is now more funded by the likes of its suppliers or short-term creditors. Keep an eye out for future increases because when the ratio of current liabilities to total assets gets particularly high, this can introduce some new risks for the business.

What We Can Learn From Karoon Energy's ROCE

Long story short, we're delighted to see that Karoon Energy's reinvestment activities have paid off and the company is now profitable. And with a respectable 93% awarded to those who held the stock over the last five years, you could argue that these developments are starting to get the attention they deserve. With that being said, we still think the promising fundamentals mean the company deserves some further due diligence.

If you want to continue researching Karoon Energy, you might be interested to know about the 1 warning signthat our analysis has discovered.

Karoon Energy is not the only stock earning high returns. If you'd like to see more, check out our free list of companies earning high returns on equity with solid fundamentals.

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

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.

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