Here's What's Concerning About Guanze Medical Information Industry (Holding)'s (HKG:2427) Returns On Capital

What are the early trends we should look for to identify a stock that could multiply in value over the long term? Firstly, we'd want to identify a growing return on capital employed (ROCE) and then alongside that, an ever-increasing 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. However, after investigating Guanze Medical Information Industry (Holding) (HKG:2427), we don't think it's current trends fit the mold of a multi-bagger.

Return On Capital Employed (ROCE): What Is It?

For those who don't know, ROCE is a measure of a company's yearly pre-tax profit (its return), relative to the capital employed in the business. Analysts use this formula to calculate it for Guanze Medical Information Industry (Holding):

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

0.086 = CN¥21m ÷ (CN¥277m - CN¥34m) (Based on the trailing twelve months to June 2024).

Therefore, Guanze Medical Information Industry (Holding) has an ROCE of 8.6%. On its own that's a low return on capital but it's in line with the industry's average returns of 9.0%.

View our latest analysis for Guanze Medical Information Industry (Holding)

While the past is not representative of the future, it can be helpful to know how a company has performed historically, which is why we have this chart above. If you're interested in investigating Guanze Medical Information Industry (Holding)'s past further, check out this free graph covering Guanze Medical Information Industry (Holding)'s past earnings, revenue and cash flow.

What Does the ROCE Trend For Guanze Medical Information Industry (Holding) Tell Us?

In terms of Guanze Medical Information Industry (Holding)'s historical ROCE movements, the trend isn't fantastic. Over the last four years, returns on capital have decreased to 8.6% from 39% four years ago. And considering revenue has dropped while employing more capital, we'd be cautious. This could mean that the business is losing its competitive advantage or market share, because while more money is being put into ventures, it's actually producing a lower return - "less bang for their buck" per se.

On a related note, Guanze Medical Information Industry (Holding) has decreased its current liabilities to 12% 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. 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 Key Takeaway

In summary, we're somewhat concerned by Guanze Medical Information Industry (Holding)'s diminishing returns on increasing amounts of capital. Yet despite these concerning fundamentals, the stock has performed strongly with a 78% return over the last year, so investors appear very optimistic. Regardless, we don't feel too comfortable with the fundamentals so we'd be steering clear of this stock for now.

One more thing: We've identified 2 warning signs with Guanze Medical Information Industry (Holding) (at least 1 which doesn't sit too well with us) , and understanding them would certainly be useful.

While Guanze Medical Information Industry (Holding) 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.