Here's What To Make Of Shanghai Pharmaceuticals Holding's (SHSE:601607) Decelerating Rates Of Return

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. Basically this means that a company has profitable initiatives that it can continue to reinvest in, which is a trait of a compounding machine. However, after briefly looking over the numbers, we don't think Shanghai Pharmaceuticals Holding (SHSE:601607) has the makings of a multi-bagger going forward, but let's have a look at why that may be.

Understanding 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 Shanghai Pharmaceuticals Holding:

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

0.092 = CN¥8.7b ÷ (CN¥221b - CN¥126b) (Based on the trailing twelve months to December 2024).

Therefore, Shanghai Pharmaceuticals Holding has an ROCE of 9.2%. On its own that's a low return on capital but it's in line with the industry's average returns of 8.8%.

Check out our latest analysis for Shanghai Pharmaceuticals Holding

In the above chart we have measured Shanghai Pharmaceuticals Holding's prior ROCE against its prior performance, but the future is arguably more important. If you're interested, you can view the analysts predictions in our free analyst report for Shanghai Pharmaceuticals Holding .

What Does the ROCE Trend For Shanghai Pharmaceuticals Holding Tell Us?

In terms of Shanghai Pharmaceuticals Holding's historical ROCE trend, it doesn't exactly demand attention. The company has employed 52% more capital in the last five years, and the returns on that capital have remained stable at 9.2%. This poor ROCE doesn't inspire confidence right now, and with the increase in capital employed, it's evident that the business isn't deploying the funds into high return investments.

On a separate but related note, it's important to know that Shanghai Pharmaceuticals Holding has a current liabilities to total assets ratio of 57%, which we'd consider pretty high. This can bring about some risks because the company is basically operating with a rather large reliance on its suppliers or other sorts of short-term creditors. Ideally we'd like to see this reduce as that would mean fewer obligations bearing risks.

Our Take On Shanghai Pharmaceuticals Holding's ROCE

As we've seen above, Shanghai Pharmaceuticals Holding's returns on capital haven't increased but it is reinvesting in the business. Unsurprisingly, the stock has only gained 10% over the last five years, which potentially indicates that investors are accounting for this going forward. So if you're looking for a multi-bagger, the underlying trends indicate you may have better chances elsewhere.

Shanghai Pharmaceuticals Holding does have some risks though, and we've spotted 1 warning sign for Shanghai Pharmaceuticals Holding that you might be interested in.

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.