Enhabit (NYSE:EHAB) Could Be Struggling To Allocate Capital

To avoid investing in a business that's in decline, there's a few financial metrics that can provide early indications of aging. More often than not, we'll see a declining return on capital employed (ROCE) and a declining amount of capital employed. Basically the company is earning less on its investments and it is also reducing its total assets. So after we looked into Enhabit (NYSE:EHAB), the trends above didn't look too great.

Understanding Return On Capital Employed (ROCE)

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 Enhabit, this is the formula:

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

0.038 = US$50m ÷ (US$1.5b - US$143m) (Based on the trailing twelve months to September 2023).

Therefore, Enhabit has an ROCE of 3.8%. In absolute terms, that's a low return and it also under-performs the Healthcare industry average of 10%.

View our latest analysis for Enhabit

In the above chart we have measured Enhabit's prior ROCE against its prior performance, but the future is arguably more important. If you'd like to see what analysts are forecasting going forward, you should check out our free report for Enhabit.

The Trend Of ROCE

We are a bit worried about the trend of returns on capital at Enhabit. Unfortunately the returns on capital have diminished from the 8.5% that they were earning two years ago. Meanwhile, capital employed in the business has stayed roughly the flat over the period. Companies that exhibit these attributes tend to not be shrinking, but they can be mature and facing pressure on their margins from competition. If these trends continue, we wouldn't expect Enhabit to turn into a multi-bagger.

The Bottom Line

In the end, the trend of lower returns on the same amount of capital isn't typically an indication that we're looking at a growth stock. It should come as no surprise then that the stock has fallen 40% over the last year, so it looks like investors are recognizing these changes. That being the case, unless the underlying trends revert to a more positive trajectory, we'd consider looking elsewhere.

Enhabit does have some risks though, and we've spotted 1 warning sign for Enhabit that you might be interested in.

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.