There Are Reasons To Feel Uneasy About Zhejiang Gongdong Medical Technology's (SHSE:605369) Returns On Capital

If we want to find a potential multi-bagger, often there are underlying trends that can provide clues. Amongst other things, we'll want to see two things; firstly, a growing return on capital employed (ROCE) and secondly, an expansion in the company's amount 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. Having said that, from a first glance at Zhejiang Gongdong Medical Technology (SHSE:605369) 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 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 Zhejiang Gongdong Medical Technology:

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

0.08 = CN¥140m ÷ (CN¥1.9b - CN¥199m) (Based on the trailing twelve months to June 2024).

Therefore, Zhejiang Gongdong Medical Technology has an ROCE of 8.0%. On its own that's a low return, but compared to the average of 5.8% generated by the Medical Equipment industry, it's much better.

View our latest analysis for Zhejiang Gongdong Medical Technology

In the above chart we have measured Zhejiang Gongdong Medical Technology'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 Zhejiang Gongdong Medical Technology .

How Are Returns Trending?

When we looked at the ROCE trend at Zhejiang Gongdong Medical Technology, we didn't gain much confidence. Over the last five years, returns on capital have decreased to 8.0% from 30% five years ago. On the other hand, the company has been employing more capital without a corresponding improvement in sales in the last year, which could suggest these investments are longer term plays. 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 Gongdong Medical Technology has done well to pay down its current liabilities to 10% of total assets. So we could link some of this to the decrease in ROCE. 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. Some would claim this reduces the business' efficiency at generating ROCE since it is now funding more of the operations with its own money.

Our Take On Zhejiang Gongdong Medical Technology's ROCE

Bringing it all together, while we're somewhat encouraged by Zhejiang Gongdong Medical Technology's reinvestment in its own business, we're aware that returns are shrinking. Since the stock has declined 62% over the last three years, investors may not be too optimistic on this trend improving either. 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 more thing, we've spotted 1 warning sign facing Zhejiang Gongdong Medical Technology that you might find interesting.

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.