Returns On Capital Signal Tricky Times Ahead For AK Medical Holdings (HKG:1789)

If you're looking for a multi-bagger, there's a few things to keep an eye out for. Firstly, we'll want to see a proven return on capital employed (ROCE) that is increasing, and secondly, 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. Having said that, from a first glance at AK Medical Holdings (HKG:1789) we aren't jumping out of our chairs at how returns are trending, but let's have a deeper look.

What Is 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 AK Medical Holdings is:

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

0.047 = CN¥105m ÷ (CN¥2.7b - CN¥418m) (Based on the trailing twelve months to June 2022).

Thus, AK Medical Holdings has an ROCE of 4.7%. In absolute terms, that's a low return and it also under-performs the Medical Equipment industry average of 11%.

View our latest analysis for AK Medical Holdings

Above you can see how the current ROCE for AK Medical Holdings compares to its prior returns on capital, but there's only so much you can tell from the past. If you'd like to see what analysts are forecasting going forward, you should check out our free report for AK Medical Holdings.

What The Trend Of ROCE Can Tell Us

In terms of AK Medical Holdings' historical ROCE movements, the trend isn't fantastic. Over the last five years, returns on capital have decreased to 4.7% from 34% five years ago. Given the business is employing more capital while revenue has slipped, this is a bit concerning. If this were to continue, you might be looking at a company that is trying to reinvest for growth but is actually losing market share since sales haven't increased.

On a related note, AK Medical Holdings has decreased its current liabilities to 16% of total assets. That could partly explain why the ROCE has dropped. Effectively this means their suppliers or short-term creditors are funding less of the business, which reduces some elements of risk. Some would claim this reduces the business' efficiency at generating ROCE since it is now funding more of the operations with its own money.

The Bottom Line

From the above analysis, we find it rather worrisome that returns on capital and sales for AK Medical Holdings have fallen, meanwhile the business is employing more capital than it was five years ago. Long term shareholders who've owned the stock over the last three years have experienced a 15% depreciation in their investment, so it appears the market might not like these trends either. With underlying trends that aren't great in these areas, we'd consider looking elsewhere.

On a separate note, we've found 2 warning signs for AK Medical Holdings you'll probably want to know about.

While AK Medical Holdings may not currently earn the highest returns, we've compiled a list of companies that currently earn more than 25% return on equity. Check out this free list here.

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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.