eGain Corporation's (NASDAQ:EGAN) Stock Has Shown Weakness Lately But Financial Prospects Look Decent: Is The Market Wrong?

eGain (NASDAQ:EGAN) has had a rough three months with its share price down 21%. However, the company's fundamentals look pretty decent, and long-term financials are usually aligned with future market price movements. Specifically, we decided to study eGain's ROE in this article.

ROE or return on equity is a useful tool to assess how effectively a company can generate returns on the investment it received from its shareholders. Simply put, it is used to assess the profitability of a company in relation to its equity capital.

See our latest analysis for eGain

How Do You Calculate Return On Equity?

The formula for return on equity is:

Return on Equity = Net Profit (from continuing operations) ÷ Shareholders' Equity

So, based on the above formula, the ROE for eGain is:

13% = US$7.8m ÷ US$58m (Based on the trailing twelve months to June 2024).

The 'return' is the yearly profit. One way to conceptualize this is that for each $1 of shareholders' capital it has, the company made $0.13 in profit.

What Has ROE Got To Do With Earnings Growth?

So far, we've learned that ROE is a measure of a company's profitability. Depending on how much of these profits the company reinvests or "retains", and how effectively it does so, we are then able to assess a company’s earnings growth potential. Assuming everything else remains unchanged, the higher the ROE and profit retention, the higher the growth rate of a company compared to companies that don't necessarily bear these characteristics.

eGain's Earnings Growth And 13% ROE

At first glance, eGain seems to have a decent ROE. Further, the company's ROE is similar to the industry average of 13%. For this reason, eGain's five year net income decline of 8.9% raises the question as to why the decent ROE didn't translate into growth. So, there might be some other aspects that could explain this. These include low earnings retention or poor allocation of capital.

So, as a next step, we compared eGain's performance against the industry and were disappointed to discover that while the company has been shrinking its earnings, the industry has been growing its earnings at a rate of 20% over the last few years.

Earnings growth is an important metric to consider when valuing a stock. The investor should try to establish if the expected growth or decline in earnings, whichever the case may be, is priced in. By doing so, they will have an idea if the stock is headed into clear blue waters or if swampy waters await. Is eGain fairly valued compared to other companies? These 3 valuation measures might help you decide.

Is eGain Making Efficient Use Of Its Profits?

Because eGain doesn't pay any regular dividends, we infer that it is retaining all of its profits, which is rather perplexing when you consider the fact that there is no earnings growth to show for it. It looks like there might be some other reasons to explain the lack in that respect. For example, the business could be in decline.

Summary

On the whole, we do feel that eGain has some positive attributes. However, given the high ROE and high profit retention, we would expect the company to be delivering strong earnings growth, but that isn't the case here. This suggests that there might be some external threat to the business, that's hampering its growth.

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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.