What are the early trends we should look for to identify a stock that could multiply in value over the long term? 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. Basically this means that a company has profitable initiatives that it can continue to reinvest in, which is a trait of a compounding machine. In light of that, when we looked at BMC Medical (SZSE:301367) and its ROCE trend, we weren't exactly thrilled.

Understanding Return On Capital Employed (ROCE)

If you haven't worked with ROCE before, it measures the 'return' (pre-tax profit) a company generates from capital employed in its business. Analysts use this formula to calculate it for BMC Medical:

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

0.047 = CN¥135m ÷ (CN¥3.0b - CN¥129m) (Based on the trailing twelve months to March 2024).

Therefore, BMC Medical 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 6.3%.

In the above chart we have measured BMC Medical's prior ROCE against its prior performance, but the future is arguably more important. If you'd like, you can check out the forecasts from the analysts covering BMC Medical for free.

So How Is BMC Medical's ROCE Trending?

When we looked at the ROCE trend at BMC Medical, we didn't gain much confidence. To be more specific, ROCE has fallen from 32% over the last five years. And considering revenue has dropped while employing more capital, we'd be cautious. 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 side note, BMC Medical has done well to pay down its current liabilities to 4.3% 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.

What We Can Learn From BMC Medical's ROCE

From the above analysis, we find it rather worrisome that returns on capital and sales for BMC Medical 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 year have experienced a 33% 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.

If you want to know some of the risks facing BMC Medical we've found 2 warning signs (1 doesn't sit too well with us!) that you should be aware of before investing here.

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.