If we want to find a potential multi-bagger, often there are underlying trends that can provide clues. Firstly, we'd want to identify a growing return on capital employed (ROCE) and then alongside that, an ever-increasing base of capital employed. This shows us that it's a compounding machine, able to continually reinvest its earnings back into the business and generate higher returns. With that in mind, we've noticed some promising trends at SFL (NYSE:SFL) so let's look a bit deeper.
Understanding Return On Capital Employed (ROCE)
For those that aren't sure what ROCE is, it measures the amount of pre-tax profits a company can generate from the capital employed in its business. The formula for this calculation on SFL is:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.083 = US$229m ÷ (US$3.7b - US$969m) (Based on the trailing twelve months to December 2023).
Thus, SFL has an ROCE of 8.3%. Ultimately, that's a low return and it under-performs the Oil and Gas industry average of 15%.
In the above chart we have measured SFL's prior ROCE against its prior performance, but the future is arguably more important. If you're interested, you can view the analysts predictions in our free analyst report for SFL .
What Can We Tell From SFL's ROCE Trend?
SFL has not disappointed in regards to ROCE growth. We found that the returns on capital employed over the last five years have risen by 63%. The company is now earning US$0.08 per dollar of capital employed. In regards to capital employed, SFL appears to been achieving more with less, since the business is using 20% less capital to run its operation. A business that's shrinking its asset base like this isn't usually typical of a soon to be multi-bagger company.
For the record though, there was a noticeable increase in the company's current liabilities over the period, so we would attribute some of the ROCE growth to that. Essentially the business now has suppliers or short-term creditors funding about 26% of its operations, which isn't ideal. 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.
The Key Takeaway
In summary, it's great to see that SFL has been able to turn things around and earn higher returns on lower amounts of capital. And with a respectable 60% 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 know some of the risks facing SFL we've found 3 warning signs (2 are a bit concerning!) that you should be aware of before investing here.
While SFL isn't earning the highest return, check out this free list of companies that are 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.