Accounting – Guide to Calculating Return on Capital Employed
The return on capital employed (ROCE) is a profitability ratio that can help you to measure how efficient your business is in terms of generating profits from the capital employed （Also see Benefits a Simple Financial Analysis Brings to Your Business). The ratio reveals how many dollars of profits each dollar of the capital employed generates. It is a long term profitability ratio as it reveals how efficiently assets are performing within a given period. This shows that it takes into consideration the long term business financing. This is one of the key financial ratios expert investors use in assessing an investment.
Calculation of the return on capital employed
To calculate the ROCE, you should compare the net operating profit and the capital employed. First, you need to calculate the net operating profit, which is also known as earnings before taxes and interest rates. The net operating profit is usually indicated in the business income statement (Also see Relationship between the Balance Sheet and Income Statement). Alternatively, sum up the interest rates and taxes and then add the resulting amount to your business net income.
Next, you will need to calculate the amount of capital employed. Note that the term ‘capital employed’ could be used to refer to various financial ratios. However, in this case, it refers to the total business assets minus the total liabilities associated with your business.
Return on capital employed = Net operating profit / Capital employed
To get an accurate depiction of return on capital employed in your business, you may need to adjust the amount calculated in the previous step. This is necessary because your business may have cash on hand. Since that cash is not actively employed in your company, you should subtract it from the capital employed.
Analyzing the return on capital employed
A higher value of ROCE means that your business is using its capital efficiently. If the value is low, it means that your business isn’t effectively using its capital and isn’t generating shareholder value as expected (Also see 4 Things about Financial Statements Every Business Owner Should Know).
As a measure of your business’s profitability, you can use this ratio to forecast the future of your business. You can do so by comparing different values of return on capital employed in the previous.
Besides, most potential investors will check your business return on capital ratio before making the investment decision. Therefore, you should ensure that the ratio is accurately calculated. If accounting isn’t one of your strengths, then, you may need to hire an in-house accountant. Alternatively, you can engage accounting firm in Singapore and get a team of professional accountants do the hard work.