Return on Capital Employed (ROCE) is a widely used financial metric that assesses a company’s profitability and capital efficiency. Return on Capital Employed (ROCE) is a crucial financial metric that measures a company’s profitability and efficiency in using its capital. The formula for ROIC is after-tax profit divided by invested capital, where invested capital is shareholder’s equity plus any debt financing minus non-operating cash and investments. ROCE takes into account the total amount of capital the company uses – both debt and equity – unlike metrics such as return on equity (ROE), which solely assess profitability in relation to shareholders’ equity. Return on capital employed (ROCE) is a popular financial metric that helps investors, analysts and managers assess the overall profitability of a business. Return on Capital Employed (ROCE) stands as one of the most crucial financial metrics for evaluating a company’s operational efficiency and profitability.

Access and download collection of free Templates to help power your productivity and performance. CFI is on a mission to enable anyone to be a great financial analyst and have a great career path. CFI is the global institution behind the financial modeling and valuation analyst FMVA® Designation. A well rounded financial analyst possesses all of the above skills! Below is a break down of subject weightings in the FMVA® financial analyst program.

Return or Profit

The second element, capital employed, is the total capital a company has utilized to generate its EBIT.ROCE is a useful metric of financial performance, and it is particularly helpful in comparing companies engaged in capital-intensive industry sectors.The price-to-book (P/B) ratio is a financial metric used to compare a company’s market value to its book value.ROI, or Return on Investment, measures the gain from an investment relative to its cost, providing a ratio of net profit to investment cost.The ROCE is calculated by taking the net operating profit after tax (NOPAT) and dividing it by the total equity.While comparing the two ROCEs, one must ensure the companies in consideration belong to the same industry.

A project should be accepted only if its expected return exceeds both the firm’s ROCE and its weighted average cost of capital (WACC). Conversely, a declining ROCE often indicates overinvestment, asset underutilisation, or deteriorating pricing power. It reveals whether new investments or expansions are contributing to real value creation. Continuous monitoring of ROCE thus provides early signals about the firm’s capital productivity and strategic allocation discipline. A ROCE consistently above the WACC indicates that the business is adding value for its shareholders.

What is the difference between capital employed and invested capital?

ROCE measures how efficiently a company generates operating profit from the total capital it uses,  both debt and equity. While ROCE measures how efficiently a company uses all its capital, other efficiency ratios and profitability metrics focus on different parts of the business. This means the company earns a 20% return on the capital employed, a strong indicator of profitability and operational efficiency. For ROCE, capital employed captures the total amount of debt financing and equity available to fund operations and purchase assets. These investors believe the return on capital is a better gauge of the performance or profitability of a company over a more extended period. The return on capital employed (ROCE) is a ratio that measures how much operating profit a company makes from its capital employed.

ROCE is a financial ratio that measures how efficiently a company is using its capital to generate profits.Look at this diagram below, representing a company’s balance sheet.This could be a sign of poor management or excessive capital tied up in unproductive assets.It shows how much return a business earns from the capital it invests.In addition to company comparisons, businesses can also use ROCE to evaluate in-house projects or individual business units.

Of course, the second one is much more capital intensive (more capital employed) and will have more depreciation in their assets (less EBIT). Note how the return on capital employed increased by 40 basis points over the year. The return on capital employed for the last reported twelve months by August last year (2020) is 11.21%.

Jenna Ortega Measurements: Height, Weight, Bra Size, Shoe Size

A higher ROCE suggests that a company is making better use of its resources, which can make it an attractive investment. Our insights are crafted to help investors spot opportunities in undervalued growth stocks, enhancing potential returns. Always use a consistent version of the ROCE formula when comparing a business with its competitors, or when evaluating a single firm’s performance over a period of time. As fixed assets depreciate in value, a firm’s return on employed capital will gradually increase. Generally speaking, a higher ratio result indicates that a business is making good use of its long-term financing strategy. Company GG represents a promising investment for your portfolio, and you’d like to get a better sense of its potential for financial longevity.

Think of it as a return on investment – just like earning interest on a bank account with cash invested, but investing in business assets instead. Any value greater than zero reflects net profitability, and higher values indicate a more effective use of capital investment. ROI is a popular profit metric used to evaluate company investments and their financial consequences with respect to cash flow. ROCE and ROI, along with other evaluations, can be helpful to investors assessing a company’s current financial condition and its ability to generate future profits.

It informs remuneration and performance-based incentive schemes, ensuring that executives are rewarded for genuine efficiency rather than short-term profit inflation. It connects profitability, capital structure, and asset management within one ratio — but must always be contextualised within industry norms, accounting treatment, and strategic horizon. For example, when fixed assets are revalued or written down, the capital employed figure can change sharply, making ROCE appear higher or lower without any real change in economic performance. Each ratio has its purpose, but only ROCE integrates performance with the structure of capital employed, aligning closely with economic value creation and sustainable growth. It indicates how well management uses the total pool of permanent capital — not just shareholder funds — to create operating returns. ROCE acts as a bridge between profitability and the efficiency of capital utilisation.

A sustained gap between a company’s ROCE and that of its peers may reflect differences in strategic focus, risk appetite, or capital discipline. In capital markets, ROCE is closely watched because it complements the company’s Return on Equity (ROE). If future investment projects produce returns below this threshold, overall value will erode even if accounting profits remain positive.

Thus, the capital employed considers equity and liabilities. Investments need time before they start to bring profits, and analyzing this metric in the first years of the business is not always the right approach. For similar reasons, recently founded companies have low or negative ROCE ratios. Two main methods of acquiring additional financing for the company are rising debt or selling shares. From the accounting perspective, the formula above is an equivalent of shareholders’ equity and long-term debts. In other work, this metric tells how profitable a company is.

For example, a ROCE of 15% means the what financial ratios are best to evaluate for consumer packaged goods company generates £0.15 in operating profit for every £1 employed in its operations. In simple terms, ROCE tells investors and executives how many pounds of profit are generated for every pound of long-term capital invested. ROCE is particularly useful because it reflects both the operational performance and the structure of financing behind it—an aspect often overlooked by other profitability ratios.

Companies in growth phases typically exhibit temporarily lower ROCE At Audit And Accounting figures because new capital has been invested but has not yet generated proportional earnings. ROCE reflects performance for a specific accounting period and may not capture the full impact of long-term investments or early-stage projects. For this reason, analysts often use adjusted EBIT — stripping out exceptional or non-core items — to obtain a more representative measure of ongoing operating performance. Although Return on Capital Employed (ROCE) is among the most comprehensive indicators of profitability, it is not without limitations. Similarly, ROA overlooks the funding mix, making it less informative in capital-intensive sectors where debt plays a strategic role in financing growth. It evaluates profitability before financing costs, thereby eliminating the influence of leverage.

Step-by-Step Calculation of ROCE

Net profit after tax is taken from their profit and loss account in their annual report or accounts for a specific period. ROCE can be used as an indicator of whether or not a firm is over-leveraged and should make changes to its operations or balance sheet before things get out of control. Net profit after tax / Average Shareholders’ Equity ROCE is a measure of the return on investment. ROCE focuses solely on common equity, excluding preferred equity, while Return on Equity (ROE) includes both.

Is ROCE applicable to all industries?

While ROCE is a powerful tool for assessing a company’s financial health, an overreliance on it can obscure other critical aspects of a company’s operations. As such, it complements other financial measures like the Weighted Average Cost of Capital (WACC), which considers the cost of various sources of capital such as equity source and debt financing. In the ever-evolving landscape of fintech, ROCE stands out as a critical metric, helping in understanding how well a company is generating profits from its capital, which includes both equity and other forms of equity source funding. Moreover, when viewed in the context of placement of funds, comparing the ROCE to the interest rates is useful; a company’s ROCE should typically be at least double the current rates to indicate healthy profitability, effectively clearing the hurdle rate. This is critical in business valuation as ROCE provides insights into a company’s potential to generate value for shareholders relative to the capital it employs. This figure reflects the funded resources committed to sustaining the company’s operations and is vital in the evaluation of how effectively a company uses its capital.

Displaying the annual return allows investors to see their rate of return and compare the relative performance of their investments (and portfolio) over the same and different time periods. Avoid using ROCE for companies in industries with significant intangible assets or those with fluctuating capital structures. It may also be less useful for companies with significant intangible assets, as these may not directly contribute to profits. ROCE increases when a company improves its EBIT without a significant increase in capital employed. A low ROCE indicates that the company is not using its capital efficiently to generate profits.

Is Return on Investment (ROI) the Same as Return on Capital Employed (ROCE)?

We want companies that sustain a positive and growing ROCE over the years. The average ROCE of a cybersecurity company is not the same as the average ROCE of a steel mill company. However, it depends on the industry to which the company belongs. A good ROCE is only good when it is above its weighted average cost of capital (WACC). For a more precise income generated by operations that are not affected by non-cash expenses, please consider EBITDA. Because companies might have long-term leases, we prefer to use the non-current liabilities account in order not to miss any long-term interest-bearing liability.