EngageSmart (NYSE:ESMT) Is Looking To Continue Growing 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? Typically, we'll want to notice a trend of growing return on capital employed (ROCE) and alongside that, an expanding base 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. Speaking of which, we noticed some great changes in EngageSmart's (NYSE:ESMT) returns on capital, so let's have a look.

Understanding 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. The formula for this calculation on EngageSmart is:

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

0.023 = US$19m ÷ (US$890m - US$48m) (Based on the trailing twelve months to March 2023).

Therefore, EngageSmart has an ROCE of 2.3%. In absolute terms, that's a low return and it also under-performs the Software industry average of 10%.

See our latest analysis for EngageSmart

Above you can see how the current ROCE for EngageSmart compares to its prior returns on capital, but there's only so much you can tell from the past. If you're interested, you can view the analysts predictions in our free report on analyst forecasts for the company.

SWOT Analysis for EngageSmart

What The Trend Of ROCE Can Tell Us

We're delighted to see that EngageSmart is reaping rewards from its investments and is now generating some pre-tax profits. The company was generating losses three years ago, but now it's earning 2.3% which is a sight for sore eyes. And unsurprisingly, like most companies trying to break into the black, EngageSmart is utilizing 60% more capital than it was three 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.

In Conclusion...

In summary, it's great to see that EngageSmart has managed to break into profitability and is continuing to reinvest in its business. Astute investors may have an opportunity here because the stock has declined 15% in the last year. That being the case, research into the company's current valuation metrics and future prospects seems fitting.

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

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.