ROIC vs ROCE

Difference Between ROIC vs ROCE

Return on Invested Capital (ROIC) and Return on Capital Employed (ROCE) come under profitability ratios that go beyond determining just the profitability of the company. These ratios also help understand how the company is performing and help asses how much of profits made is actually returned to investors. Both these ratios specifically examine how a company utilizes its capital to invest and grow further. ROIC along with ROCE and other ratios are helpful to analysts in assessing a company’s financial condition and forecast the future ability to generate profits.

Both these ratios help in determining how efficiently the company uses the invested capital and are very similar in nature and have few differences mainly in the way these ratios are calculated. Below are the key differences between ROIC vs ROCE listed below  –

ROIC vs ROCE Infographics

Here we provide you with the top 5 difference between ROIC and ROCE

Interpreting ROIC and ROCE

• The higher the ratios the better for both ROCE and ROIC. It means that the company is better utilizing the capital. This indicates that the company is allocating the capital in profitable investments.
• Both these ratios are meaningful only when compared to WACC (weighted average cost of capital). If ROIC and ROCE are higher than WACC, then it is an indication that the company has generated value in the financial year.
• If these ratios are lower than the cost of capital it means that the company is in very poor financial health
• Even though calculating ROIC is conceptually straightforward, there are practical issues which also have to be considered. For example, Invested capital does not take into account intangible assets and the amount invested in human capital and goodwill. This investment helps in increasing the profits and are also reflected in cash flow they are not reflected in ROIC
• The drawback of ROCE is that it measures return against book value rather than market value, which means as the assets are depreciated, ROCE will go on increasing even though the cash flows remain the same. This means that older business will have a high value, in comparison to new ones which may necessarily not be the case. Cash flow is also affected by inflation. It is also important to note that revenues will also increase with increasing inflation while capital employed does not because the book value of assets is not affected by inflation

ROIC vs ROCE Head to Head Difference

Let’s now look at the head to head difference between ROIC vs ROCE

ROIC		ROCE
ROIC helps determine the efficiency of the total capital invested. It is a measure that helps determine if the company is allocating the capital in profitable investments		ROCE can be considered as a measure to inspect the efficiency of the companies business operations and measures the profits the company generates with the capital employed
ROIC Formula – Earnings before interest and tax (EBIT)*(1-tax rate) / Invested Capital		ROCE Formula – (Earnings before interest and tax (EBIT) / Capital Employed). To be consistent, the numerator and denominator are taken before interest and tax
Invested capital is a subset of capital employed and is the portion of the capital that is actively used in the business. Invested Capital can be calculated as = Fixed Assets + Intangible Assets + Current Assets – Current Liabilities – Cash		Capital employed in the denominator is calculated as (Debt + Equity – current liabilities). It implies all the capital that is part of the business
This ratio is important from the perspective of an Investor		This ratio is important from the perspective of the Company
ROIC helps in assessing the companies performance within its sector. Cross-sector comparisons using ROIC may not be meaningful. For example, comparing an energy company with IT. It compares the productivity of its operating assets		ROCE looks at the long-term view of the company and asses the ability of the managers. It penalizes the management if ROCE holds too much cash for too long. The trend of ROCE is very important

ROIC vs ROCE – Conclusion

ROIC vs ROCE is similar in nature only with slight differences. These are vital ratios which help comparisons between companies and help in determining the companies graphs using the past year’s ratios. Both ratios can be helpful in comparing companies which are capital intensive, for example – energy, telecommunication, and auto companies. These measures have limited use when it comes to service-based companies.

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