Returns On Capital Signal Tricky Times Ahead For Guangdong Kanghua Healthcare (HKG:3689)

What are the early trends we should look for to identify a stock that could multiply in value over the long term? Firstly, we'll want to see a proven return on capital employed (ROCE) that is increasing, and secondly, an expanding base of capital employed. This shows us that it's a compounding machine, able to continually reinvest its earnings back into the business and generate higher returns. However, after briefly looking over the numbers, we don't think Guangdong Kanghua Healthcare (HKG:3689) 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. The formula for this calculation on Guangdong Kanghua Healthcare is:

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

0.015 = CN¥29m ÷ (CN¥2.7b - CN¥835m) (Based on the trailing twelve months to December 2022).

Therefore, Guangdong Kanghua Healthcare has an ROCE of 1.5%. Ultimately, that's a low return and it under-performs the Healthcare industry average of 11%.

See our latest analysis for Guangdong Kanghua Healthcare

Historical performance is a great place to start when researching a stock so above you can see the gauge for Guangdong Kanghua Healthcare's ROCE against it's prior returns. If you'd like to look at how Guangdong Kanghua Healthcare has performed in the past in other metrics, you can view this free graph of past earnings, revenue and cash flow.

So How Is Guangdong Kanghua Healthcare's ROCE Trending?

In terms of Guangdong Kanghua Healthcare's historical ROCE movements, the trend isn't fantastic. Around five years ago the returns on capital were 16%, but since then they've fallen to 1.5%. Meanwhile, the business is utilizing more capital but this hasn't moved the needle much in terms of sales in the past 12 months, so this could reflect longer term investments. 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.

What We Can Learn From Guangdong Kanghua Healthcare's ROCE

Bringing it all together, while we're somewhat encouraged by Guangdong Kanghua Healthcare's reinvestment in its own business, we're aware that returns are shrinking. Moreover, since the stock has crumbled 83% over the last five years, it appears investors are expecting the worst. Therefore based on the analysis done in this article, we don't think Guangdong Kanghua Healthcare has the makings of a multi-bagger.

One more thing: We've identified 3 warning signs with Guangdong Kanghua Healthcare (at least 1 which doesn't sit too well with us) , and understanding them would certainly be useful.

While Guangdong Kanghua Healthcare isn't earning the highest return, check out this free list of companies that are earning high returns on equity with solid balance sheets.

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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.