EngageSmart (NYSE:ESMT) Is Experiencing Growth In Returns On Capital

If we want to find a stock that could multiply over the long term, what are the underlying trends we should look for? In a perfect world, we'd like to see a company investing more capital into its business and ideally the returns earned from that capital are also increasing. Put simply, these types of businesses are compounding machines, meaning they are continually reinvesting their earnings at ever-higher rates of return. So on that note, EngageSmart (NYSE:ESMT) looks quite promising in regards to its trends of return on capital.

Understanding Return On Capital Employed (ROCE)

Just to clarify if you're unsure, ROCE is a metric for evaluating how much pre-tax income (in percentage terms) a company earns on the capital invested in its business. Analysts use this formula to calculate it for EngageSmart:

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

0.013 = US$11m ÷ (US$871m - US$47m) (Based on the trailing twelve months to September 2022).

Therefore, EngageSmart has an ROCE of 1.3%. Ultimately, that's a low return and it under-performs the Software industry average of 9.9%.

See our latest analysis for EngageSmart

In the above chart we have measured EngageSmart'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.

So How Is EngageSmart's ROCE Trending?

EngageSmart has recently broken into profitability so their prior investments seem to be paying off. The company was generating losses two years ago, but now it's earning 1.3% which is a sight for sore eyes. And unsurprisingly, like most companies trying to break into the black, EngageSmart is utilizing 52% more capital than it was two years ago. This can indicate that there's plenty of opportunities to invest capital internally and at ever higher rates, both common traits of a multi-bagger.

Our Take On EngageSmart's ROCE

Long story short, we're delighted to see that EngageSmart's reinvestment activities have paid off and the company is now profitable. And since the stock has fallen 13% over the last year, there might be an opportunity here. So researching this company further and determining whether or not these trends will continue seems justified.

If you'd like to know about the risks facing EngageSmart, we've discovered 1 warning sign that you should be aware of.

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.