Return on Capital Employed | ROCE | Stock Market Terms 7

Hello friends. In this blog, we discuss various financial topics. That is why we have launched the ‘Stock Market Terms‘ series. This is the seventh post of that series. The topic of our discussion in today’s post is Return on Capital Employed. In the previous post, we discussed “Return on Equity“.

Contents

What is ROCE?

Return on Capital Employed or ROCE is the return generated by a company on the total capital raised by it. For a company to do business, it needs capital. This capital comes mainly in two forms – Debt & Equity. Either the company has to take loan from financial institutions or it has to dilute its equity to raise capital. ROCE is a profitability ratio. It calculates the return a company generates on the total amount it has raised.

Difference between ROE & ROCE

While calculating ROE, we take into account only Shareholders’ Equity. In that case, even if a company raised capital from debt, we do not calculate it. However, in the case of ROCE, we take the debt taken by the company into account. This is the difference between ROE & ROCE. ROCE gives a better picture of a company’s efficiency than ROE. Further, ROE can be manipulated easily. Read our post on ROE to know in detail.

Formula of ROCE

The formula of ROCE is as below.

[ROCE = Profit before Taxes & Interest/(Equity+Debt)]

While calculating ROCE, we take the Profit before taxes and interest because here we are calculating the total earnings of the company on its raised capital. A good company’s ROCE should be greater that its cost of capital.

How to calculate ROCE?

We will see how to calculate the ROCE of a company with the following example. As on 31st March, 2022, the Profit before taxes & interest of ITC is 17164.15 crore, Shareholders’ fund is 59009.86 crore, and debt was 5.28 crore. Hence, the ROCE of ITC was = (17164.15)/(59009.86+5.28)x100 = 29%.

Have you understood how to calculate ROCE? Yes? Then calculate the ROCE of your favourite company and let us know in the comment box.

Usage of ROCE

The best usage of ROCE is for the capital intensive companies as these companies take huge debts for their operation, and a good ROCE in these companies signals green flag. However, companies with zero debt, or very low debt, should not be analyzed with ROCE.

It gives you a clear picture about company’s efficiency of making profits.

An investor can compare a company’s ROCE with other asset tools to check where return is high.

Conclusion

Though ROCE is a very important profitability ratio, still an investor should check all the other financial ratios & parameters before investing in a company.