Investment Guide

What is the Return on Capital Employed (ROCE)?

By admin
17 June 2025
4 mins read

Twitter

Facebook

What is the Return on Capital Employed (ROCE)?

Return on Capital Employed (ROCE) is an important financial ratio that is used to analyse the profitability and capital efficiency of the firm.

In order to provide a comprehensive picture of the company's financial performance, ROCE considers both debt and equity. A high and consistent ROCE shows that the business is doing a good job of managing its capital.

This article explores the return on capital employed meaning, how to calculate it, and why it matters.

What is ROCE?

Return on capital employed (ROCE) is a financial ratio that measures how efficiently a company uses its capital. It shows the ability of the enterprise to generate returns on the total capital invested, which includes equity as well as debt but excludes short-term debt.

Investors use ROCE to assess the capital efficiency of the management, compare the performances of different companies, and identify investment opportunities with high return potential. A high ROCE indicates that the company is able to generate high returns on its investment and carries superior growth potential.

Return on Capital Employed Ratio Calculation with Formula

The return on capital employed ratio formula (ROCE) is-

ROCE = EBIT / Capital Employed

Where,

1. EBIT (Earnings Before Interest and Tax) is the company's total profits before deducting any interest or tax payments.

2. Capital employed is the total amount of capital invested in the business minus the current liabilities.

Example of how to calculate the return on capital employed:

Say a company XYZ Ltd. has an EBIT of ₹200 crores. This is the profit before paying any interest or taxes. They have total assets of ₹600 crores and current liabilities of ₹200 crores.

To find capital employed, we subtract current liabilities from total assets.

Capital employed = ₹600 crores - ₹200 crores = ₹400 crores

Now, ROCE = EBIT / capital employed.

= ₹200 crores/ ₹400 crores = 0.5 or 50%.

This means XYZ Ltd. generates a return of ₹50 for every ₹100 capital employed. In other words, the company makes a profit of 50% from the money it has invested.

How to Use ROCE with Example

Let's take the example of two companies to understand ROCE analysis:

(in Rs. crores)	Maree Industries	Prestige Ltd.
Sales	Rs. 5,200	Rs. 18,000
EBIT (Operating Profit)	Rs. 1,300	Rs. 2,700
Total Assets	Rs. 4,800	Rs. 20,500
Current Liabilities	Rs. 900	Rs. 5,000
Capital Employed	Rs. 3,900	Rs. 15,500
ROCE (EBIT ÷ Capital Employed)	33.33%	17.42%

Although Prestige Ltd. is a bigger company with higher sales and profits, Maree Industries generates more return on each rupee of capital employed. In this example, Maree Industries earns Rs. 0.33 (33.33%) for every Rs. 1 of capital employed, while Prestige Ltd. earns only Rs. 0.17 (17.42%).

Importance of ROCE

ROCE shows how well a company utilises its capital to generate profits, offering insights into operational effectiveness.
It allows investors to compare the performance of companies within the same industry, highlighting those with better capital efficiency.
A consistently high ROCE suggests that a business is capable of sustaining long-term returns on its investments.
Businesses use ROCE to evaluate the profitability of various projects or investments, ensuring optimal capital allocation.
A higher ROCE signals financial health and efficiency, making the company appealing to potential investors.

Pros and Cons of ROCE

After learning what is return on capital employed, let us look at the pros and cons of ROCE

Importance	Limitations
It shows how well a company uses its capital to generate returns.	Not ideal for comparing different industries.
It is a better measure of a company's financial performance than ROE, as it includes debt and equity.	Lower ROCE with large cash reserves can be misleading.
Good for comparing companies in the same industry.	Older companies might have higher ROCE due to asset depreciation.
Higher ROCE indicates a high efficiency in utilising the capital to generate profits.	Can change yearly, considering trends over time.
Useful for investors and companies to evaluate performance.	It should be used with other measures for a full picture.

What is the difference between ROCE & ROIC?

Factor	ROCE	ROIC
Formula	EBIT / Capital Employed	NOPAT / Invested Capital
Considers Tax?	No	Yes (includes tax-adjusted profit)
Capital Definition	Total Assets - Current Liabilities	Net Working Capital + Fixed Assets + Goodwill / Intangibles
Profit Definition	EBIT (Earnings Before Interest & Tax)	NOPAT (EBIT × (1 –-Tax Rate))
When to Use	For high-level comparisons between firms or sectors	For detailed profitability analysis including tax impact

With a clear understanding of what is ROCE and what is ROIC, you can make better judgement on the performance of a company and sectors .

FAQs

What does it mean for capital to be employed?

Capital employed refers to the total amount of capital a business uses to run its operations and generate profits. It is calculated using this formula: Capital Employed = Total Assets - Current Liabilities.

What does it imply to say that capital is being used?

Capital being used refers to how a company employs its financial resources—equity and debt—for operational activities, investments, and generating profits. Efficient use of capital ensures higher returns and sustainable growth.

How is ROCE calculated?

ROCE is calculated using the formula:

ROCE = Earnings Before Interest and Tax (EBIT)/Capital Employed, where capital employed is total assets minus current liabilities.

What constitutes a good ROCE value?

A ROCE value of at least 20% is considered good. Generally, higher ROCE indicates effective capital utilisation and profitability, but benchmarks can vary by sector.

Why is ROCE important when we also have ROE and ROA metrics?

ROCE considers both equity and debt, providing a holistic view of profitability compared to ROE (focuses on equity) and ROA (focuses on total assets). It is a key metric for understanding how efficiently overall capital is utilised.

Why is ROCE useful if there are already ROE and ROA measures?

ROCE is important because it gives a more complete picture of a company's profitability, especially when compared to ROE (Return on Equity) and ROA (Return on Assets).