What trends should we look for it we want to identify stocks that can 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. However, after investigating Winner Medical (SZSE:300888), we don't think it's current trends fit the mold of a multi-bagger.
Understanding 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 Winner Medical, this is the formula:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.03 = CN¥388m ÷ (CN¥16b - CN¥3.6b) (Based on the trailing twelve months to March 2024).
Therefore, Winner Medical has an ROCE of 3.0%. 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 Winner 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 Winner Medical for free.
How Are Returns Trending?
When we looked at the ROCE trend at Winner Medical, we didn't gain much confidence. Around five years ago the returns on capital were 18%, but since then they've fallen to 3.0%. 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.
The Key Takeaway
In summary, we're somewhat concerned by Winner Medical's diminishing returns on increasing amounts of capital. It should come as no surprise then that the stock has fallen 58% over the last three years, so it looks like investors are recognizing these changes. With underlying trends that aren't great in these areas, we'd consider looking elsewhere.
If you'd like to know about the risks facing Winner Medical, we've discovered 2 warning signs that you should be aware of.
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.
