Be Wary Of eGain (NASDAQ:EGAN) And Its 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? Amongst other things, we'll want to see two things; firstly, a growing return on capital employed (ROCE) and secondly, an expansion in the company's amount of capital employed. Ultimately, this demonstrates that it's a business that is reinvesting profits at increasing rates of return. Having said that, from a first glance at eGain (NASDAQ:EGAN) we aren't jumping out of our chairs at how returns are trending, but let's have a deeper look.
What Is 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. To calculate this metric for eGain, this is the formula:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.079 = US$5.7m ÷ (US$125m - US$53m) (Based on the trailing twelve months to December 2023).
Thus, eGain has an ROCE of 7.9%. Even though it's in line with the industry average of 7.6%, it's still a low return by itself.
View our latest analysis for eGain
In the above chart we have measured eGain'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 eGain for free.
What The Trend Of ROCE Can Tell Us
In terms of eGain's historical ROCE movements, the trend isn't fantastic. Around five years ago the returns on capital were 44%, but since then they've fallen to 7.9%. However it looks like eGain might be reinvesting for long term growth because while capital employed has increased, the company's sales haven't changed much in the last 12 months. 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.
On a related note, eGain has decreased its current liabilities to 42% 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. 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. Keep in mind 42% is still pretty high, so those risks are still somewhat prevalent.
The Bottom Line On eGain's ROCE
To conclude, we've found that eGain is reinvesting in the business, but returns have been falling. Since the stock has declined 50% over the last five years, investors may not be too optimistic on this trend improving either. On the whole, we aren't too inspired by the underlying trends and we think there may be better chances of finding a multi-bagger elsewhere.
One more thing to note, we've identified 1 warning sign with eGain and understanding it should be part of your investment process.
For those who like to invest in solid companies, check out this free list of companies with solid balance sheets and high 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.
