Ideagen (LON:IDEA) Hasn't Managed To Accelerate Its Returns

If we want to find a stock that could multiply over the long term, what are the underlying trends we should look for? 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. Put simply, these types of businesses are compounding machines, meaning they are continually reinvesting their earnings at ever-higher rates of return. However, after briefly looking over the numbers, we don't think Ideagen (LON:IDEA) has the makings of a multi-bagger going forward, but let's have a look at why that may be.

Return On Capital Employed (ROCE): What is it?

For those who don't know, ROCE is a measure of a company's yearly pre-tax profit (its return), relative to the capital employed in the business. To calculate this metric for Ideagen, this is the formula:

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

0.023 = UK£3.5m ÷ (UK£215m - UK£65m) (Based on the trailing twelve months to April 2021).

Thus, Ideagen has an ROCE of 2.3%. Ultimately, that's a low return and it under-performs the Software industry average of 9.2%.

Check out our latest analysis for Ideagen

In the above chart we have measured Ideagen's prior ROCE against its prior performance, but the future is arguably more important. If you're interested, you can view the analysts predictions in our free report on analyst forecasts for the company.

What Can We Tell From Ideagen's ROCE Trend?

In terms of Ideagen's historical ROCE trend, it doesn't exactly demand attention. The company has consistently earned 2.3% for the last five years, and the capital employed within the business has risen 299% in that time. This poor ROCE doesn't inspire confidence right now, and with the increase in capital employed, it's evident that the business isn't deploying the funds into high return investments.

The Key Takeaway

Long story short, while Ideagen has been reinvesting its capital, the returns that it's generating haven't increased. Yet to long term shareholders the stock has gifted them an incredible 421% return in the last five years, so the market appears to be rosy about its future. However, unless these underlying trends turn more positive, we wouldn't get our hopes up too high.

On a final note, we've found 2 warning signs for Ideagen that we think you should be aware of.

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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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