Zhejiang Huakang Pharmaceutical (SHSE:605077) Will Want To Turn Around Its Return Trends

Did you know there are some financial metrics that can provide clues of a potential multi-bagger? 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. Although, when we looked at Zhejiang Huakang Pharmaceutical (SHSE:605077), 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 Zhejiang Huakang Pharmaceutical is:

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

0.071 = CN¥347m ÷ (CN¥6.0b - CN¥1.1b) (Based on the trailing twelve months to June 2024).

Thus, Zhejiang Huakang Pharmaceutical has an ROCE of 7.1%. Even though it's in line with the industry average of 7.2%, it's still a low return by itself.

Check out our latest analysis for Zhejiang Huakang Pharmaceutical

In the above chart we have measured Zhejiang Huakang Pharmaceutical's prior ROCE against its prior performance, but the future is arguably more important. If you'd like to see what analysts are forecasting going forward, you should check out our free analyst report for Zhejiang Huakang Pharmaceutical .

What Does the ROCE Trend For Zhejiang Huakang Pharmaceutical Tell Us?

In terms of Zhejiang Huakang Pharmaceutical's historical ROCE movements, the trend isn't fantastic. Around five years ago the returns on capital were 38%, but since then they've fallen to 7.1%. However it looks like Zhejiang Huakang Pharmaceutical might be reinvesting for long term growth because while capital employed has increased, the company's sales haven't changed much in the last 12 months. It's worth keeping an eye on the company's earnings from here on to see if these investments do end up contributing to the bottom line.

On a side note, Zhejiang Huakang Pharmaceutical has done well to pay down its current liabilities to 18% of total assets. That could partly explain why the ROCE has dropped. What's more, this can reduce some aspects of risk to the business because now the company's suppliers or short-term creditors are funding less of its operations. Since the business is basically funding more of its operations with it's own money, you could argue this has made the business less efficient at generating ROCE.

The Bottom Line

In summary, Zhejiang Huakang Pharmaceutical is reinvesting funds back into the business for growth but unfortunately it looks like sales haven't increased much just yet. Since the stock has declined 32% over the last three years, investors may not be too optimistic on this trend improving either. On the whole, we aren't too inspired by the underlying trends and we think there may be better chances of finding a multi-bagger elsewhere.

On a final note, we found 2 warning signs for Zhejiang Huakang Pharmaceutical (1 is potentially serious) you should be aware of.

While Zhejiang Huakang Pharmaceutical 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.