A company that generates strong returns with its capital creates value for shareholders. You can analyze a company’s ability to produce these returns by calculating its return on invested capital. ROIC measures after-tax operating profit as a percentage of the money shareholders and debtholders have invested in the company. After-tax operating profit is is what's left after a business pays operating expenses and taxes, but before it pays interest on debt. A higher ROIC suggests management uses investors’ money more efficiently than a low ROIC.
Identify a company’s earnings before interest and taxes, or operating income, on its income statement. If you’re calculating ROIC for a publicly traded company, you can find its income statement in its Form 10-K annual report. This report contains its financial statements and other financial information for the year. You can download Form 10-K from the investor relations section of its website or from the U.S. Securities and Exchange Commission’s online EDGAR database.
Subtract the company’s corporate tax rate as a decimal from 1. You can find a company’s tax rate in its Form 10-K. For example, if a company’s tax rate is 35 percent, subtract 0.35 from 1 to get 0.65.
Multiply earnings before interest and taxes by your result to calculate the company’s after-tax operating profit. In this example, assume the company has $15 million in earnings before interest and taxes. Multiply $15 million by 0.65 to get $9.75 million in after-tax operating profit.
Find the company’s total shareholders’ equity on its balance sheet. Find the amount of debt on which the company pays interest -- such as bonds payable and bank loans -- in the liabilities section of the balance sheet. In this example, assume the company has $40 million in total shareholders’ equity and $10 million in bank loans.
Add shareholders’ equity to the interest-bearing debt to calculate the company’s invested capital. In this example, add $40 million to $10 million to get $50 million in invested capital.
Divide the company’s after-tax operating profit by its invested capital. Multiply your result by 100 to calculate ROIC as a percentage. Concluding the example, divide $9.75 million by $50 million to get 0.195. Multiply 0.195 by 100 to get a 19.5 percent ROIC. This means the company generated core business profit equal to 19.5 percent of investors’ money.
Compare a company’s ROIC over different periods to identify any positive or negative trends.
ROIC varies among industries. Compare a company’s ROIC with those of its competitors to see how it measures up to its peers.
- Thinkstock/Comstock/Getty Images