Investors Met With Slowing Returns on Capital At Zhongzhi Pharmaceutical Holdings (HKG:3737)

To find a multi-bagger stock, what are the underlying trends we should look for in a business? 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. This shows us that it's a compounding machine, able to continually reinvest its earnings back into the business and generate higher returns. So, when we ran our eye over Zhongzhi Pharmaceutical Holdings' (HKG:3737) trend of ROCE, we liked what we saw.

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. To calculate this metric for Zhongzhi Pharmaceutical Holdings, this is the formula:

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

0.16 = CN¥148m ÷ (CN¥1.4b - CN¥485m) (Based on the trailing twelve months to December 2020).

Therefore, Zhongzhi Pharmaceutical Holdings has an ROCE of 16%. In absolute terms, that's a satisfactory return, but compared to the Personal Products industry average of 10.0% it's much better.

See our latest analysis for Zhongzhi Pharmaceutical Holdings

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 want to delve into the historical earnings, revenue and cash flow of Zhongzhi Pharmaceutical Holdings, check out these free graphs here.

What The Trend Of ROCE Can Tell Us

The trend of ROCE doesn't stand out much, but returns on a whole are decent. The company has consistently earned 16% for the last five years, and the capital employed within the business has risen 62% in that time. 16% is a pretty standard return, and it provides some comfort knowing that Zhongzhi Pharmaceutical Holdings has consistently earned this amount. Over long periods of time, returns like these might not be too exciting, but with consistency they can pay off in terms of share price returns.

Another point to note, we noticed the company has increased current liabilities over the last five years. This is intriguing because if current liabilities hadn't increased to 34% of total assets, this reported ROCE would probably be less than16% because total capital employed would be higher.The 16% ROCE could be even lower if current liabilities weren't 34% of total assets, because the the formula would show a larger base of total capital employed. With that in mind, just be wary if this ratio increases in the future, because if it gets particularly high, this brings with it some new elements of risk.

In Conclusion...

To sum it up, Zhongzhi Pharmaceutical Holdings has simply been reinvesting capital steadily, at those decent rates of return. However, despite the favorable fundamentals, the stock has fallen 27% over the last five years, so there might be an opportunity here for astute investors. For that reason, savvy investors might want to look further into this company in case it's a prime investment.

Zhongzhi Pharmaceutical Holdings does have some risks, we noticed 2 warning signs (and 1 which is potentially serious) we think you should know about.

While Zhongzhi Pharmaceutical 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. 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.
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