ROIC Calculator

1. What is Return on Invested Capital?
2. ROIC formula
3. ROIC calculation: a Practical Example
4. ROIC vs WACC
5. ROI vs ROIC

    What is Return on Invested Capital?

Return on invested capital (ROIC) is a ratio which aims to measure how well a company is able to allocate its capital and to generate operating return per unit of invested capital. It is a "useful measure of return which relates the operating income to the capital invested in the firm"^[1]. As such, ROIC reflects the profitability and value-creation potential of companies relative to the amount of invested capital.

For any particular business, the higher the ROIC percentage, the better the investment is for its stockholders. Investors often assess the relative efficiency of the invested capital by comparing ROIC to WACC^[1] (see "ROIC vs WACC" below). It is also used separately for relative comparison of different investment options, such as different stocks.

The value calculated by a ROIC calculator is usually expressed as a percentage and more rarely as a ratio. The ROIC ratio or percentage is often used in stock valuations alongside the P/E ratio: a company with a high P/E ratio but a consistently good return on capital might be appreciated at a premium to stocks with lower P/Es but less consistent returns. The metric is opaque with regards to which business segment (of a larger corporation) is generating the value.

    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

with the result being a percentage (%). This is the formula used in our ROIC calculator as well. An extended way to write the same equation is as:

ROIC = (EBIT * (1 - t)) / (BV_d + BV_e - Cash) x 100

The net operating profit is often called EBIT (Earnings before interest and taxes) whereas the adjusted taxes can be replaced by the effective tax rate in which the EBIT is multiplied by (1 - Tax Rate(%)) to get the numerator. The numerator of both equations is thus the Net Operating Profit After Tax a.k.a. NOPAT, the net after-tax operating profit. It is also sometimes called EBIAT (Earnings Before Interest After Taxes).

The invested capital is usually calculated by subtracting current debt (BV_d), cash & equivalent holdings, as well as non-operating assets (assets from discontinued operations) from the total book value of equity (BV_e). This produces the ROIC formula's denominator which should be for a single year, although some practitioners might prefer calculating an average invested capital over two or more years instead.

As you will note, the formula does not use market values but book values. Market values incorporate market expectations which is not something this return ratio should include.

    ROIC calculation: a Practical Example

Consider the example of a fictitious company ACME X which turned in a $54,000 operating profit last year and its effective tax rate is 21%. Computing the numerator, NOPAT, goes like so:

NOPAT = 54,000 x (1 - 21/100) = (54,000 x 0.79) = $42,660

The company has current liabilities of $10,000, assets from discontinued operations of $5,000 and $2,000 in cash. Its total equity has a book value of $260,000. To calculate the total invested capital (the denominator in the formula above) we subtract the debt, non-operating assets and cash from the equity:

Invested Capital = $260,000 - ($10,000 + $5,000 + $2,000) = $260,000 - $17,000 = $243,000

Finally, we compute the ratio between NOPAT and the Invested Capital and multiply by 100 to get a ROIC percentage:

ROIC (%) = $42,660 / $243,000 x 100 = 0.1755 x 100 = 17.55% and it appears the stakeholders will likely be happy with the profitability of ACME X. You can verify the calculations using our calculator.

While our return on invested capital calculator is fairly straightforward to use once you have the necessary input data, it should be noted that some numbers required to properly calculate the return on invested capital might be difficult to obtain from a balance sheet and income statement as some values might only be found in addendums and auxiliary documents.

    ROIC vs WACC

Since WACC (Weighted Average Cost of Capital) is the minimum expected return a capital provided would usually demand, the difference between the Return On Invested Capital and WACC is the "excess return" or the "economic profit" realized by an investing agent. The ROIC percentage should be greater than the WACC percentage in order for the firm to be generating capital and adding value for its investors.

If, for instance, a particular company has 14% ROIC and a WACC of 6% the company's net return to investors is 14% - 6% = 8%, which might be good or bad depending on the particular investment and business environment. If the difference between the two is very small then the return on capital is usually considered poor.

    ROI vs ROIC

Return on investment (ROI) is often mistaken with return on invested capital, but the two reflect different financial concepts. This becomes evident even by comparing the formula for return on investment: ROI = (Investment Profit - Investment Cost) / Investment Cost, to the ROIC formula above. The latter is noticeably more complicated and is focused on the ratio of net operating profits and capital assets.

Therefore, ROIC indicates to an investor how wise and effective the overall use of capital investment is in a company whereas ROI can be utilized either for investments (e.g. in the stock market) or in a company internally to evaluate the profitability of concrete decisions. Additionally, return on investment can also include non-operating profits, e.g. investment income.