Return on capital

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Return on capital (ROC) is a ratio used in finance, valuation, and accounting. The ratio is estimated by dividing the after-tax operating income (NOPAT) by the book value of invested capital. It is a useful measure for comparing the relative profitability of companies after taking into account the amount of capital used.[1]

Formula[edit]

  • ROC = \frac{\textrm{Net Operating Profit} - \textrm{Adjusted Taxes}}{\textrm{Book Value Of Debt} + \textrm{Book Value Of Equity} - \textrm{Cash}}

When the return on capital is greater than the cost of capital (usually measured as the weighted average cost of capital), the company is creating value; when it is less than the cost of capital, value is destroyed.[1]

This differs from ROIC. Return on invested capital (ROIC) is a financial measure that quantifies how well a company generates cash flow relative to the capital it has invested in its business. It is defined as net operating profit less adjusted taxes divided by invested capital and is usually expressed as a percentage. In this calculation, capital invested includes all monetary capital invested: long-term debt, common and preferred shares.

ROIC formula[edit]

  • ROIC = \frac{\textrm{Net Operating Profit} - \textrm{Adjusted Taxes}}{\textrm{Invested Capital}}

Note that the numerator in the ROIC fraction does not subtract interest expense, because the return is calculated for total capital, and not only equity capital.[1]

See also[edit]

References[edit]

  1. ^ a b c Fernandes, Nuno. Finance for Executives: A Practical Guide for Managers. NPV Publishing, 2014, p. 36.