There Are Reasons To Feel Uneasy About Ramsay Health Care's (ASX:RHC) Returns On Capital

What trends should we look for it we want to identify stocks that can multiply in value over the long term? Typically, we'll want to notice a trend of growing return on capital employed (ROCE) and alongside that, an expanding base 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. Although, when we looked at Ramsay Health Care (ASX:RHC), it didn't seem to tick all of these boxes.

Understanding Return On Capital Employed (ROCE)

Just to clarify if you're unsure, ROCE is a metric for evaluating how much pre-tax income (in percentage terms) a company earns on the capital invested in its business. The formula for this calculation on Ramsay Health Care is:

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%. Ultimately, that's a low return and it under-performs the Healthcare industry average of 11%.

View 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.

What Can We Tell From Ramsay Health Care's ROCE Trend?

The trend of ROCE doesn't look fantastic because it's fallen from 13% five years ago, while the business's capital employed increased by 122%. Usually this isn't ideal, but given Ramsay Health Care conducted a capital raising before their most recent earnings announcement, that would've likely contributed, at least partially, to the increased capital employed figure. It's unlikely that all of the funds raised have been put to work yet, so as a consequence Ramsay Health Care might not have received a full period of earnings contribution from it.

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. In any case, the stock doesn't have these traits of a multi-bagger discussed above, so if that's what you're looking for, we think you'd have more luck elsewhere.

Since virtually every company faces some risks, it's worth knowing what they are, and we've spotted 3 warning signs for Ramsay Health Care (of which 1 is potentially serious!) that you should know about.

If you want to search for solid companies with great earnings, check out this free list of companies with good balance sheets and impressive returns on equity.

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This article by Simply Wall St is general in nature. 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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