Finding a business that has the potential to grow substantially is not easy, but it is possible if we look at a few key financial metrics. Firstly, we'd want to identify a growing return on capital employed (ROCE) and then alongside that, an ever-increasing base of capital employed. Put simply, these types of businesses are compounding machines, meaning they are continually reinvesting their earnings at ever-higher rates of return. With that in mind, we've noticed some promising trends at Tethys Petroleum (CVE:TPL) so let's look a bit deeper.

Return On Capital Employed (ROCE): What Is It?

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 Tethys Petroleum is:

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

0.15 = US$12m ÷ (US$83m - US$5.4m) (Based on the trailing twelve months to March 2024).

Thus, Tethys Petroleum has an ROCE of 15%. In absolute terms, that's a satisfactory return, but compared to the Oil and Gas industry average of 8.6% it's much better.

View our latest analysis for Tethys Petroleum

While the past is not representative of the future, it can be helpful to know how a company has performed historically, which is why we have this chart above. If you want to delve into the historical earnings , check out these free graphs detailing revenue and cash flow performance of Tethys Petroleum.

What The Trend Of ROCE Can Tell Us

Tethys Petroleum has not disappointed with their ROCE growth. The figures show that over the last five years, ROCE has grown 1,987% whilst employing roughly the same amount of capital. So it's likely that the business is now reaping the full benefits of its past investments, since the capital employed hasn't changed considerably. The company is doing well in that sense, and it's worth investigating what the management team has planned for long term growth prospects.

One more thing to note, Tethys Petroleum has decreased current liabilities to 6.5% of total assets over this period, which effectively reduces the amount of funding from suppliers or short-term creditors. Therefore we can rest assured that the growth in ROCE is a result of the business' fundamental improvements, rather than a cooking class featuring this company's books.

The Bottom Line On Tethys Petroleum's ROCE

As discussed above, Tethys Petroleum appears to be getting more proficient at generating returns since capital employed has remained flat but earnings (before interest and tax) are up. Investors may not be impressed by the favorable underlying trends yet because over the last five years the stock has only returned 32% to shareholders. So with that in mind, we think the stock deserves further research.