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Return on Invested Capital or ROIC
is an instrument that can be used for measuring the historical performance of a
business unit or of an entire company.
Discounted
Cash Flow ultimately drives the (future) value of any company (leading
indicator). However, short-term cash flow results are not good for
performance measuring, because cash-flows are easy to manipulate,
for example by delaying capital spending, postponing advertising campaigns
or decreasing R&D levels.
ROIC is a lagging indicator; it provides information on how a
company has performed in the past.
The ROIC model is often used to assess the value
creation capabilities of a firm or firms in an intuitive way. High
(relative) ROIC levels are seen as proof of a strong company and/or
solid company management. However great care should be taken. An
unbalanced focus on the method ROIC may just as well be an indicator of poor
management due to harvesting behavior, ignoring growth possibilities, and
long-term value destruction. Since Return on Invested Capital is
an accounting-based measure, it suffers the following concerns:
- manipulability by management,
- influenced by accounting conventions
and by changes in accounting conventions, and
- affected by inflation and currency
exchange movements.
What can be said is that companies
earning less than their Cost of
Capital usually can't create value by growing alone, unless their Return on
Invested Capital moves up above the Cost of Capital (WACC).
Calculation ROIC
A simple ROIC
formula = Net Income After Tax =
After Tax Operating Earnings
Invested Capital
Total Assets - Excess Cash - Non-Interest-Bearing Current Liabilities
Even more adequately, ROIC for a single time period = Net Operating Earnings before Interest and Amortization Charges, but after
Cash Taxes
Total Assets - Excess Cash - Non-Interest-Bearing Current Liabilities
Book: Steven M. Bragg - Business Ratios and Formulas : A Comprehensive
Guide - 
Book: Ciaran Walsh - Key Management Ratios -
Compare:
EBIT |
EBITDA |
Economic Value Added |
Cash Ratio |
Current Ratio |
Earnings Per Share |
Return on Equity |
Return on Investment |
Return on Capital Employed
More financial methods
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Summaries of 2,000 management methods