Ramsay Health Care (ASX:RHC) May Have Issues Allocating Its Capital

If we want to find a potential multi-bagger, often there are underlying trends that can provide clues. Ideally, a business will show two trends; firstly a growing return on capital employed (ROCE) and secondly, an increasing amount of capital employed. If you see this, it typically means it's a company with a great business model and plenty of profitable reinvestment opportunities. Having said that, from a first glance at Ramsay Health Care (ASX:RHC) we aren't jumping out of our chairs at how returns are trending, but let's have a deeper look.

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. Analysts use this formula to calculate it for Ramsay Health Care:

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

0.028 = AU$380m ÷ (AU$17b - AU$3.8b) (Based on the trailing twelve months to December 2020).

Thus, Ramsay Health Care has an ROCE of 2.8%. In absolute terms, that's a low return and it also under-performs the Healthcare industry average of 11%.

See our latest analysis for Ramsay Health Care

Above you can see how the current ROCE for Ramsay Health Care compares to its prior returns on capital, but there's only so much you can tell from the past. If you'd like, you can check out the forecasts from the analysts covering Ramsay Health Care here for free.

The Trend Of ROCE

We weren't thrilled with the trend because Ramsay Health Care's ROCE has reduced by 79% over the last five years, while the business employed 122% more capital. That being said, Ramsay Health Care raised some capital prior to their latest results being released, so that could partly explain the increase in capital employed. The funds raised likely haven't been put to work yet so it's worth watching what happens in the future with Ramsay Health Care's earnings and if they change as a result from the capital raise.

The Bottom Line

In summary, Ramsay Health Care is reinvesting funds back into the business for growth but unfortunately it looks like sales haven't increased much just yet. Unsurprisingly then, the total return to shareholders over the last five years has been flat. All in all, the inherent trends aren't typical of multi-baggers, so if that's what you're after, we think you might have more luck elsewhere.

One final note, you should learn about the 3 warning signs we've spotted with Ramsay Health Care (including 1 which makes us a bit uncomfortable) .

While Ramsay Health Care 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.
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