Return on Invested Capital
Calculation Results
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What is the Return on Invested Capital?
ROIC (Return on Invested Capital) is an essential financial measure that measures how well a business uses its capital to produce operating returns on the money invested. In other words, it tells us how cost-effective and value-creating a company is with the capital it owns. At the same time, a higher ROIC percentage means better returns for shareholders (hint: keep in mind that this may underperform other potential investments). ROIC is usually compared to the weighted average cost of capital (WACC) to assess the efficiency with which capital is deployed, as discussed in “ROIC vs. WACC.”
Generally, the ROIC is shown as a percent, sometimes as a ratio. Stock valuations often use the overall ROIC and the price-to-earnings (P/E) ratio. When valuing a stock, ROIC is typically examined with the price-earnings (P/E) ratio. A permanently rich company with a high P/E and persistent return on capital may have a higher valuation relative to lower P/Es but less dependable returns. ROIC is muddled, though — it says nothing about a large corporate entity’s businesses, whatever is making this value.
ROIC Calculator ~ Even the Return On Invested Capital Calculator is not too hard to use once you have the data. Gather all of it, though: a few numbers required for an actual ROIC calculation might be hard to get. Many values exist only in supplemental schedules and not on the balance sheet and income statement.
ROIC formula
The formula for ROIC calculation is fairly simple and is usually given as:
ROIC = (Net operating profit – Adjusted taxes) / Invested Capital x 100
The result of this step will then be a decimal or percentage (%). The same formula is used in our ROIC calculator. This net operating profit (aka EBIT) — Earnings Before Interest and Taxes — adjusted taxes fields can be substituted with just the effective tax rate. On the top line, you multiply EBIT by (1 –Tax Rate(%)/ 100); this assumes your NOPAT (Net Operating Profit After Tax, firmer net annum) is essentially the net operating profit after the triple “A” deductions.
Invested capital is typically determined by subtracting current liabilities, cash and equivalents, and non-operating assets (such as those from discontinued operations) from a company’s total current assets. This is the denominator for the ROIC formula, usually calculated on a one-year basis, which we get out. Subsequently, some practitioners will utilize the average invested capital over multiple years.
Also, note that this formula is based on book values rather than market values because we don’t want investor expectation (is) included in an ROIC anyway. We are looking at this calculation. The above tool handles all this math so you can concentrate on performing your investment analysis and interpretation well.
ROIC calculation: a Practical Example
Suppose a company called ACME X made an operating profit of$54,000 last year. Therefore, the effective tax rate working is 21%. Its computation for the top line, we get NOPAT, so we need to figure out RGBO
NOPAT = 54,000 x (1 – 21/100) = (54,000 x 0.79) = $42,660
The company has $10,000 in current liabilities, $5,000 from assets discontinued off-books, and $2,000 cash. Its total current assets are $260,000. The invested capital total is obtained by subtracting the liabilities, non-operating assets, and cash from current assets.
Invested Capital = $260,000 – ($10,000 + $5,000 + $2,000) = $260,000 – $17,000 = $243,000
Finally, we calculate the NOPAT/Invested Capital as a ratio by multiplying by 100 and calling this a ROIC percentage:
ROIC (%) = $42,660 / $243,000 x 100 = 0.1755 x 100 = 17.55%. It seems the stakeholders will be satisfied with the profiACME X’s profitability. Verify the calculations using our calculator.
ROIC vs WACC
Since WACC (Weighted Average Cost of Capital) is the minimum return a capital provider would expect, an investing agent’s Excess Return or Economic Profit can be represented as the difference between the Return On Invested Capital and WACC.
The ROIC percentage should be higher than the WACC percentage for the firm to capture capital and create value for its investors.
If you take an example, if a certain company has a 14% ROIC and a 6% WACC, then the profit to the company’s investors is 14%—6%, which can be good or bad depending on the investment and the business cycle.
If the two differ by a small percentage, then the return on capital is often poor.
ROI vs. ROIC
ROI (Return on investment) is commonly confused with return on invested capital, but these are two different financial terms.
Now, this becomes even clearer when you see what the formula for return on investment: ROI = (Investment Profit – Investment Cost) / InvestmentCost compared with the ROIC formula above looks like. The latter is highly complex and concerns the division of net operating profits over capital assets.
So, ROIC is meant to convey how shrewd and productive the company-wide utilization of capital investment is; ROI can be used for any outside investments (e.g., in the stock market) and internal within a company to determine the return of diversified decisions. Moreover, ROI also encompasses non-operating profits, e.g., investment gains