How to Calculate Return on Investment Capital?

Are you ready to crack the code of finance? In this blog post, we’ll uncover the secrets of how to calculate return on investment capital. With the global economy constantly evolving, having a firm grasp on this concept is more important than ever.

Now, you may wonder what the return on investment capital is. Well, in simple terms, it’s a measure of the profitability of an investment or business venture. Interestingly, studies show that companies/ investors who clearly understand ROIC make informed, successful financial decisions. This results in a 15% increase in overall profitability compared to those without such clarity.

Here’s the catch. 76% of investors struggle with accurately computing their return on investment capital.

But fear not; unraveling the complexities of how to calculate return on investment capital doesn’t have to be daunting. We’ll break it down into manageable steps. This will enable you to gauge the efficiency of your investment and make sound financial choices.

So, buckle up – it’s time to level up your investment game and become an ROIC calculation maestro. Your financial IQ is about to get a serious upgrade.

Table of Contents:

1. What is the Return-On-Investment Capital (ROIC)?
2. What is ROIC in Finance?
3. Why is Return on Investment Capital Helpful?
4. How to Calculate ROIC?
5. Example of Return on Invested Capital (ROIC)
6. How to Analyze Return on Investment Capital: Step-By-Step
7. What is a Good ROIC Ratio?
8. What are the Limitations of ROIC?
9. FAQs About ROIC
10. Wrap Up

First…

What is the Return-On-Investment Capital (ROIC)?

Definition: Return on Investment Capital (ROIC) is like a business scorecard. It tells us how good a company is at turning its investments into profit. Think of it as a performance check – the higher, the better.

To calculate ROIC, we use a formula: divide the net operating profit after taxes (NOPAT) by the invested capital. This might sound jargon-y, but it’s like checking how well a team plays with the money they have.

Investors really like ROIC. Why? Because it’s a no-nonsense way to see if a company is making smart moves with its money. A high ROIC is like a gold star, showing the company is using its resources wisely. Conversely, a low ROIC can be a warning sign that things might not be going well.

In a nutshell, ROIC is your financial GPS, helping you navigate the market and pick the winning players. Understanding it gives you a sneak peek into a company’s financial health – pretty handy for making investment choices.

What is ROIC in Finance?

Definition: ROIC stands for Return on Investment Capital. It is a financial metric that assesses a company’s efficiency in generating profits from its invested capital. It represents the return a business earns on the total capital invested, including both equity and debt.

What is the formula for return on invested capital/ what is the ROIC equation?

Let’s break it down. NOPAT is a company’s profit from its core operations, excluding taxes. The average invested capital is the average of the company’s debt and equity over a specified period. When you divide NOPAT by Average Invested Capital and multiply by 100, you get the ROIC.

Let’s use an example to learn how to calculate return on investment capital.

Assume XYZ company has a NOPAT of $500,000 and an average invested capital of $2 million. The ROIC would be:

So, the ROIC for Company XYZ is 25%. This means the company generates a 25% return for every dollar of invested capital. A higher ROIC indicates efficient capital utilization. This makes it an attractive metric for investors seeking companies with a strong track record of turning investments into profits.

Why is Return on Investment Capital Helpful?

Return on Investment Capital (ROIC) transcends mere numbers, offering profound insights into a company’s financial landscape. Let’s dissect why it isn’t just another acronym but a crucial ally in fiscal wisdom.

• Measuring efficiency: ROIC is a meticulous efficiency scorecard. It gauges how effectively a company transforms its invested capital, comprising both equity and debt, into operational profit. Alongside this, debt-to-total assets ratio analysis provides insight into the company’s financial structure and leverage, revealing the company’s core operations efficiency in generating returns.
• Comparative analysis: In the vast sea of financial data, ROIC serves as a lighthouse. It allows for meaningful comparative analyses across industries and competitors. Normalizing financial performance facilitates benchmarking, enabling stakeholders to gauge a company’s standing relative to its peers. 
• Long-term performance evaluation: ROIC isn’t a snapshot; it’s a time-lapse. It provides a historical perspective, offering a nuanced evaluation of a company’s ability to generate returns sustainably. This makes it an invaluable tool for investors focused on long-term performance and stability.
• Investment decision-making: When contemplating investment decisions, ROIC becomes a trusted advisor. Investors use it as a due diligence companion, helping them navigate various investment options. By spotlighting companies with efficient capital deployment, ROIC aids in making informed and strategic investment choices.
• Capital allocation: Companies often face the challenge of allocating their limited resources among various projects. ROIC is the guiding compass in this endeavor. It assists in steering capital towards ventures that promise higher returns.
• Identifying growth opportunities: ROIC is not just a historical record; it’s a forward-looking map. It helps to identify where your company’s investments yield the most substantial returns. This aids in aligning investment strategies with areas with potential expansion and increased profitability. Thus, it is a strategic tool for identifying growth opportunities.
• Performance tracking: Staying attuned to a company’s financial health in the dynamic finance landscape is paramount. ROIC provides real-time pulse checks, enabling you to track your firm’s performance and adapt your strategies accordingly.

How to Calculate ROIC?

1. Understand the Formula of RIIC

The formula for Return on Invested Capital (ROIC) is:

2. Calculate NOPAT

• Start with operating income (EBIT) and subtract taxes.
• Formula:

3. Determine Invested Capital

• Invested capital includes total assets minus non-interest-bearing current liabilities.
• Formula:

Invested Capital = Total Assets – Non-Interest-Bearing Current Liabilities

4. Plug Values into the ROIC Formula

• Insert your NOPAT and invested capital values into the ROIC formula to calculate the result.

5. Interpret the Result

• A higher ROIC indicates efficient use of capital, while a lower ROIC may signal inefficiencies.

Example of Return on Invested Capital (ROIC)

Scenario:

• Operating Income (EBIT): $500,000
• Tax Rate: 30%
• Total Assets: $2,000,000
• Non-Interest-Bearing Current Liabilities: $500,000

Step 1: Calculate NOPAT

NOPAT=EBIT×(1−Tax Rate)=500,000×(1−0.30)=500,000×0.70=350,000

Step 2: Calculate Invested Capital

Invested Capital = Total Assets – Non-Interest-Bearing Current Liabilities
Invested Capital = 2,000,000 – 500,000 = 1,500,000

Step 3: Calculate ROIC

How to Analyze Return on Investment Capital: Step-By-Step

Data analysis is like navigating a maze blindfolded – challenging yet oddly exhilarating. But don’t worry. Data visualization is the beacon in the fog of numbers.

Excel, the dependable workhorse of spreadsheets, crunches numbers with finesse. However, when it comes to visual storytelling, it’s like a mime in a library – silent and lacking flair.

This is where ChartExpo swoops in like a superhero, rescuing you from Excel’s visualization limitations. With ChartExpo, data analysis becomes a captivating journey of discovery. Insights leap off the screen like characters in a 3D movie.

So, fasten your seatbelt and get ready to witness your data in a whole new dimension.

Let’s learn how to install ChartExpo in Excel.

1. Open your Excel application.
2. Open the worksheet and click the “Insert” menu.
3. You’ll see the “My Apps” option.
4. In the Office Add-ins window, click “Store” and search for ChartExpo on my Apps Store.
5. Click the “Add” button to install ChartExpo in your Excel.

ChartExpo charts are available both in Google Sheets and Microsoft Excel. Please use the following CTAs to install the tool of your choice and create beautiful visualizations in a few clicks in your favorite tool.

Data For ROIC Eample

The table below contains ROIC sample data for three companies.

Year	Company A ROIC (%)	Company B ROIC (%)	Company C ROIC (%)
Y-2020	15.2	12.5	18.3
Y-2021	14.8	11.9	17.6
Y-2022	16.5	13.2	19
Y-2023	17.5	10.5	16.2
Y-2024	18.5	14.9	15

Follow these steps to learn how to visualize and analyze this data in Excel using ChartExpo.

• To get started with ChartExpo, install ChartExpo in Excel.
• Now Click on My Apps from the INSERT menu.

• Choose ChartExpo from My Apps, then click Insert.

• Once it loads, scroll through the charts list to locate and choose the “Multi Axis Line Chart”.

• Click the “Create Chart From Selection” button after selecting the data from the sheet, as shown.

• ChartExpo will generate the visualization below for you.

• Click on Settings and change the “Data Representation” of Profit Markup into Bar as follows.

• If you want to add anything to the chart, click the Edit Chart button:

• Click the pencil icon next to the Chart Header to change the title.
• It will open the properties dialog. Under the Text section, you can add a heading in Line 1 and enable Show.
• Give the appropriate title of your chart and click the Apply button.

• Add the dollar sign with Company A values:

• Add the dollar sign with Company B values:

• Add the dollar sign with Company C values:

• Change the Legend shape of Company A ROIC (%) to Column and click the “Apply” button.

• Change the Legend shape of Company A ROIC (%) into a Line and Circle and click the Apply button.

• Click the Save Changes button to persist the changes made to the chart.

• Your final Multi Axis Line Chart will look like the one below.

Insights

• Company A’s ROIC consistently rises from 15.2% in 2020 to 18.5% in 2024, showcasing steady improvement.
• Company B’s ROIC fluctuates, peaking at 14.9% in 2024 after a dip to 10.5% in 2023.
• Company C’s trend is less consistent, hitting 19% in 2022 but declining to 15% in 2024.

What is a Good ROIC Ratio?

A good ROIC ratio typically ranges above 10-15%, indicating that a company is effectively using its capital to generate profits. A higher ROIC indicates that the company is generating substantial returns on the capital invested in its operations.

• ROIC above 15%: Generally considered excellent, reflecting strong profitability and efficient use of capital.
• ROIC between 10-15%: Indicates solid performance, where the company is adding value beyond the cost of capital.
• ROIC below 10%: This may suggest inefficiencies or lower profitability, especially if it’s below the company’s cost of capital.

What are the Limitations of ROIC?

Are you wondering if there’s more to the Return on Investment Capital (ROIC) story? Brace yourself. Like any financial metric, ROIC has limitations, offering a peek behind the numerical curtain.

• Accounting assumptions: ROIC is based on accounting assumptions that may not always reflect the economic reality. Differences in depreciation methods or inventory valuation can distort ROIC’s accuracy as a measure of true capital efficiency.
• Non-operating items: ROIC may be influenced by non-operating items, such as gains or losses from the sale of assets. These items can create fluctuations in the metric, making it less reliable for assessing a business’s core operating performance.
• Capital structure: ROIC doesn’t account for variations in capital structure. Companies with different debt levels may exhibit similar ROIC, but their risk profiles and cost of capital may differ. This impacts the overall assessment.
• Timing of investments: The timing of capital investments can affect ROIC. Short-term investments may inflate the metric, while long-term investments may take time to yield returns. This potentially leads to a distorted company efficiency assessment.
• Industry variations: Comparing ROIC across industries is like comparing apples to oranges. Different sectors have distinct capital requirements and norms, making industry-specific benchmarks crucial.
• Quality of earnings: ROIC relies on reported earnings, which may not always represent the quality of a company’s earnings. Unusual items or accounting manipulations can impact the accuracy of ROIC as an indicator of sustainable profitability.
• Complexity and interpretation: ROIC can be complex to calculate, and its interpretation requires a nuanced understanding of a company’s financial statements. Misinterpretations may arise, especially when comparing companies with diverse business models.
• Forward-looking perspective: ROIC is historical, reflecting past performance. It doesn’t provide a forward-looking perspective on a company’s ability to sustain or improve its capital efficiency. As a result, this limits its utility for investors focused on prospects.

FAQs About ROIC

How do you calculate return on invested capital?

To calculate Return on Invested Capital (ROIC), divide Net Operating Profit After Taxes (NOPAT) by the Average Invested Capital. The formula is ROIC = NOPAT / Average Invested Capital. This ratio reveals a company’s efficiency in generating returns from its capital.

What is a good return on investment capital?

A good Return on Investment Capital (ROIC) varies by industry but generally exceeds the cost of capital. A ROIC surpassing 10-12% is often considered favorable. Higher percentages suggest efficient capital use, while lower ones may indicate less effective deployment.

Is a 10% return on investment realistic?

Yes, a 10% return on investment is realistic and achievable in various industries. It depends on factors like risk tolerance, market conditions, and the specific investment. Consistent and sustainable returns may require careful analysis and strategic decision-making.

Wrap Up

Learning how to calculate Return on Investment Capital (ROIC) opens a gateway to financial understanding. This metric, a beacon in the fiscal landscape, unveils a company’s efficiency in turning invested capital into profit. Its simplicity, encapsulated in the formula ROIC = NOPAT / Average Invested Capital, belies its profound implications.

ROIC is more than a numerical output; it’s a strategic tool for investors and decision-makers alike. Its ability to measure efficiency, facilitate comparative analysis, and evaluate long-term performance is unmatched. Through ROIC, investment decisions become informed, guided by the metric’s keen eye for efficient capital deployment.

Capital allocation finds direction as ROIC navigates companies through the intricacies of projects and initiatives. It identifies growth opportunities as prospects and strategic pathways based on sound financial principles. ROIC also serves as a real-time performance tracker, offering a dynamic pulse check for investors adjusting their strategies.

Yet, ROIC has limitations – nuances in accounting assumptions, non-operating items, and industry variations require careful consideration. Despite this, ROIC remains an indispensable ally in the quest for financial wisdom.

Do not hesitate.

Embrace the power of ROIC with ChartExpo today to decode the secrets of investment returns. It is not just about numbers; it’s about deciphering the language of financial health, sustainability, and strategic growth.