Returns On Capital Signal Tricky Times Ahead For China National Medicines (SHSE:600511)

What trends should we look for it we want to identify stocks that can multiply in value over the long term? One common approach is to try and find a company with returns on capital employed (ROCE) that are increasing, in conjunction with a growing 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. However, after briefly looking over the numbers, we don't think China National Medicines (SHSE:600511) has the makings of a multi-bagger going forward, but let's have a look at why that may be.

What Is 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. Analysts use this formula to calculate it for China National Medicines:

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

0.12 = CN¥2.3b ÷ (CN¥34b - CN¥15b) (Based on the trailing twelve months to September 2024).

Thus, China National Medicines has an ROCE of 12%. On its own, that's a standard return, however it's much better than the 9.0% generated by the Healthcare industry.

Check out our latest analysis for China National Medicines

Above you can see how the current ROCE for China National Medicines 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 China National Medicines for free.

What Does the ROCE Trend For China National Medicines Tell Us?

In terms of China National Medicines' historical ROCE movements, the trend isn't fantastic. Over the last five years, returns on capital have decreased to 12% from 17% five years ago. However it looks like China National Medicines 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 may take some time before the company starts to see any change in earnings from these investments.

On a side note, China National Medicines' current liabilities are still rather high at 43% of total assets. This effectively means that suppliers (or short-term creditors) are funding a large portion of the business, so just be aware that this can introduce some elements of risk. While it's not necessarily a bad thing, it can be beneficial if this ratio is lower.

What We Can Learn From China National Medicines' ROCE

To conclude, we've found that China National Medicines is reinvesting in the business, but returns have been falling. Although the market must be expecting these trends to improve because the stock has gained 56% over the last five years. Ultimately, if the underlying trends persist, we wouldn't hold our breath on it being a multi-bagger going forward.

If you want to continue researching China National Medicines, you might be interested to know about the 1 warning sign that our analysis has discovered.

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. 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.