Return on capital employed (ROCE)
Return on Capital Employed (ROCE) 📈
ROCE tells us how well a company uses the money it has invested (capital) to generate earnings before interest and tax (EBIT). Think of it as the “fruit yield” from the money you’ve planted in a garden. The higher the ROCE, the more efficient the company is at turning its capital into profit.
What is ROCE? 💡
ROCE = Profitability Ratio
It measures the return earned on the capital that the company has employed.
Formula
| Component | Formula |
|---|---|
| Capital Employed | $Total\ Assets - Current\ Liabilities$ |
| ROCE | $\displaystyle ROCE = \frac{EBIT}{Capital\ Employed}\times 100\%$ |
Step‑by‑Step Calculation
- Find EBIT (Earnings Before Interest and Tax) from the income statement.
- Determine Total Assets from the balance sheet.
- Subtract Current Liabilities from Total Assets to get Capital Employed.
- Divide EBIT by Capital Employed and multiply by 100 to express as a percentage.
Example
Company X:
EBIT = £200 k
Total Assets = £1 000 k
Current Liabilities = £300 k
Capital Employed = £1 000 k – £300 k = £700 k
ROCE = $\displaystyle \frac{200}{700}\times100\% \approx 28.57\%$
Interpretation
- A ROCE of 28.57 % means the company earns £0.2857 for every £1 of capital employed.
- Higher ROCE indicates better utilisation of capital.
- Compare ROCE across companies in the same industry for a fair assessment.
- Watch for very high ROCE – it might signal that the company is under‑investing in growth.
Exam Tips 🎯
Remember:
- Use EBIT, not net profit.
- Capital Employed = Total Assets – Current Liabilities.
- Show the calculation step‑by‑step and round the final answer to two decimal places.
- Express ROCE as a percentage (include the % sign).
- Check the question for any additional data (e.g., changes in assets or liabilities).
Quick Check 🚀
If a company has an EBIT of £150 k and capital employed of £500 k, what is its ROCE?
Answer: $ROCE = \frac{150}{500}\times100\% = 30\%$
Revision
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