HomeKnowledge BaseIInvested Capital: Definition and How To Calculate Returns (ROIC)

Invested Capital: Definition and How To Calculate Returns (ROIC)

What does Invested Capital Mean?

Invested capital refers to the total sum of money raised by a company through the issuance of securities to equity shareholders and debt to bondholders. It represents the combined worth of equity and debt capital that was raised by a firm, inclusive of capital leases. Invested capital is not explicitly mentioned as a line point in the firm’s financial statements, as capital leases, debt, and stockholders' equity are typically reported apart in the balance sheet.

Explaining Invested Capital

Invested capital is a crucial concept in assessing a firm’s capability to produce economic profit. To earn an economic profit, a company must generate earnings that surpass the cost of raising capital from shareholders, bondholders, and other financing sources. This metric is essential in determining how effectively a firm utilises its capital. Companies employ various financial ratios, such as the Return on Invested Capital (ROIC), the Economic Value Added (EVA), and the Return on Capital Employed (ROCE), to evaluate their capital utilisation.

How to Calculate the Invested Capital?

To calculate the invested capital, there are two common approaches: the operating approach and the financing approach. 

Operating Approach:

The formula for calculating the invested capital using the operating approach is the following:

Invested Capital = Net Working Capital + Fixed Assets + Goodwill and Intangibles

Where: Net Working Capital = Current Operating Assets - Non-interest Bearing Current Liabilities.

Fixed Assets include tangible assets such as land, buildings, and equipment. Goodwill and Intangibles represent intangible assets like brand reputation, copyrights, and proprietary technology.

For calculating the net working capital, you should deduct the non-interest bearing current liabilities from the current operating assets. Then add the resulting net working capital to the fixed assets and goodwill and intangibles to gain the invested capital.

Financing Approach:

The formula for calculating the invested capital using the financing approach is the next:

Invested Capital = Equity + 

Debt + Capital Leases

Where: Equity refers to the value of shares issued to equity shareholders. Debt represents the full debt, including bonds, raised by the firm. Capital Leases include any long-lasting lease obligations.

Add the equity, debt, and capital leases together to find the invested capital.

Please remember that the financial expert of a specific company may have their own unique approach to calculating the invested capital based on the firm’s specific circumstances and industry practices. The provided formulas and approaches serve as general guidelines to calculate the invested capital.

What does the Return on Invested Capital (ROIC) Mean?

The Return on Invested Capital (ROIC) is a profitability and performance ratio that measures the percentage profit a firm earns on its invested capital. It illustrates how efficiently a firm utilises the capital offered by investors to produce income. ROIC is a key metric used in benchmarking to assess the value and performance of companies.

Returns, in the context of ROIC, refer to the earnings generated by a company after taxes but before interest is paid. These returns reflect the profitability of the company's operations. It is important to note that returns must exceed the cost of acquiring capital to create economic value.

How to Calculate the Returns?

The Return on Invested Capital (ROIC) is a measure utilised to estimate a firm’s effectiveness in utilising the capital to produce returns. It quantifies the percentage profit that a firm earns on the money invested by its bondholders and stockholders. 

To calculate the ROIC, the following formula is used:

ROIC = Net Operating Profit After Tax (NOPAT) / Invested Capital

Here are the key steps involved in calculating the ROIC:

1. Determine the NOPAT: NOPAT means the after-tax operating profit earned by the firm. To calculate it, you should multiply Earnings Before Interest and Taxes with the tax rate and can be expressed as NOPAT = EBIT * (1 - Tax Rate).

2. Calculate the Invested Capital: The book value of debt and equity is used in this calculation. Subtract any cash equivalents from the book value of debt and equity to eliminate the interest income from money. The formula for calculating the Invested Capital depends on the specific method chosen, such as subtracting non-interest-bearing current liabilities from total assets or adding the book value of equity to the book value of debt while subtracting non-operating assets.

3. Apply the formula: Divide the NOPAT by the Invested Capital to gain the ROIC percentage.

It is important to note that the book value of debt and equity is preferred over market value for this calculation. Market value may include future expectations and growth assets, which can distort the calculation for rapidly growing companies. Using book value provides a more accurate representation of the current profitability.

To compare the firm’s ROIC to its Weighted Average Cost of Capital (WACC) is very important. If the ROIC is higher than the WACC, it shows that the firm generates returns higher than the price of the capital. And if the ROIC is lower than the WACC, it suggests that the firm earns a lower return on its projects compared to the cost of funding them.

The ROIC is a reliable method to see profitability and is viewed as more informative than other ratios like the Return on Assets (ROA) or the Return on Equity (ROE). 

Bottom Line and Key Takeaways

Invested capital plays a crucial role in evaluating a company's profitability and efficiency in utilising the funds provided by investors. It represents the total capital raised by a firm through equity and debt offerings, including capital leases. The ROIC is an important metric that shows the effectiveness of a firm's generating profit on its invested capital. Due to comparing the ROIC to the WACC, companies can define whether they create or destroy value. Calculating the invested capital and the ROIC allows investors and analysts to make informed decisions about a company's financial performance and prospects for growth.


Is invested capital the same as equity?

No, invested capital is treated as the combined value of both equity and debt capital raised by a firm, whereas equity represents the ownership interest of shareholders in a company.

How does the ROIC differ from the ROA and the ROE?

While the ROA and the ROE show a company's profitability relative to its assets and equity, respectively, ROIC specifically focuses on the profit generated on all invested capital, including both equity and debt.

Suite E 017
Midlands Office Park East
Mount Quray Street
Midlands Estate
9:00 - 18:00
Follow us on
© 2024 BCS Markets SA (Pty) Limited ('BCS Markets SA').

BCS Markets SA (Pty) Ltd. is an authorized Financial Service Provider and is regulated by the South African Financial Sector Conduct Authority (FSP No.51404). BCS Markets SA Proprietary Limited trading as BROKSTOCK.

The materials on this website (the “Site”) are intended for informational purposes only. Use of and access to the Site and the information, materials, services, and other content available on or through the Site (“Content”) are subject to the laws of South Africa.

Risk notice Margin trading in financial instruments carries a high level of risk, and may not be suitable for all users. It is essential to understand that investing in financial instruments requires extensive knowledge and significant experience in the investment field, as well as an understanding of the nature and complexity of financial instruments, and the ability to determine the volume of investment and assess the associated risks. BCS Markets SA (Pty) Ltd pays attention to the fact that quotes, charts and conversion rates, prices, analytic indicators and other data presented on this website may not correspond to quotes on trading platforms and are not necessarily real-time nor accurate. The delay of the data in relation to real-time is equal to 15 minutes but is not limited. This indicates that prices may differ from actual prices in the relevant market, and are not suitable for trading purposes. Before deciding to trade the products offered by BCS Markets SA (Pty) Ltd., a user should carefully consider his objectives, financial position, needs and level of experience. The Content is for informational purposes only and it should not construe any such information or other material as legal, tax, investment, financial, or other advice. BCS Markets SA (Pty) Ltd will not accept any liability for loss or damage as a result of reliance on the information contained within this Site including data, quotes, conversion rates, etc.

Third party content BCS Markets SA (Pty) Ltd. may provide materials produced by third parties or links to other websites. Such materials and websites are provided by third parties and are not under BCS Markets SA (Pty) Ltd.'s direct control. In exchange for using the Site, the user agrees not to hold BCS Markets SA (Pty) Ltd., its affiliates or any third party service provider liable for any possible claim for damages arising from any decision user makes based on information or other Content made available to the user through the Site.

Limitation of liability The user’s exclusive remedy for dissatisfaction with the Site and Content is to discontinue using the Site and Content. BCS Markets SA (Pty) Ltd. is not liable for any direct, indirect, incidental, consequential, special or punitive damages. Working with BCS Markets SA you are trading share CFDs. When trading CFDs on shares you do not own the underlying asset. Share CFDs are complex instruments and come with a high risk of losing money rapidly due to leverage. A high percentage of retail traders accounts lose money when trading CFDs with their provider. All rights reserved. Any use of Site materials without permission is prohibited.