VMC: What Is Return On Invested Capital?
The post was originally published here.
Definition of Return on Invested Capital (ROIC)
- Return on invested capital is a method of calculation in which you measure the performance of a company in terms of profitability.
- The ROIC is expressed in terms of percentages.
- The ratio also helps you understand how efficient a company is at utilizing its capital to generate returns.
- The more income generated from the investment, the more efficient the company is.
- The ROIC is often benchmarked with other companies in the market.
What is the formula for ROIC?
- To find the ROIC, you divide NOPAT by Invested Capital.
NOPAT ÷ Invested Capital
- The NOPAT is the net operating profit after tax.
- NOPAT can be calculated through the following formula:
EBIT x (1 – tax rate)
- EBIT is the earnings before interest and tax.
ROIC in Practice
- Tony wanted to open up a shop that sells shoes. Tony’s initial investment was $250,000. Tony’s shoe shop brings in a revenue of $100,000 and has expenses totaling to $40,000. The tax rate is 25%. What would the ROIC be?
- 100,000 – 40,000 = $60,000
- 60,000 x (0.25) = $15,000
- 60,000 – 15,000 = $45,000
- 45,000 ÷ 250,000 = 0.18
- 0.18 x 100 = 18%
- Therefore, Tony’s shoe shop has a ROIC of 18%.
Join the Bootcamp for Valuation!
The Valuation Master Class is the complete, proven, step-by-step course to guide you from novice to valuation expert.
Save with coupon code: get-smarter
Click here to learn more and register.
DISCLAIMER: This content is for information purposes only. It is not intended to be investment advice. Readers should not consider statements made by the author(s) as formal recommendations and should consult their financial advisor before making any investment decisions. While the information provided is believed to be accurate, it may include errors or inaccuracies. The author(s) cannot be held liable for any actions taken as a result of reading this article.