Return on capital employed is the profitability ratio and is used to analyze the return shareholders are earning over their amount of capital invested. It is denoted by ROCE.
Formula
It is calculated by dividing the profit before interest and tax by the amount of capital employed.
ROCE = Profit before interest and taxes / Capital employed
Where,
Capital employed = Total shareholder’s equity + long term liabilities
Capital employed can also be calculated by subtracting current liabilities from the total assets. In this case, formula will be as under:
Capital employed= Total shareholder’s equity / Total assets – current liabilities
Example
Alpha industries has an EBIT amounting to $500,000. The total assets of the company are $800,000 and the current liabilities are $400,000. The shareholder equity and long tern finance are 1,000,000 and 300,000.
Required
Calculate ROCE for Alpha industries.
Solution
Capital employed= Total assets – current liabilities = 800,000 – 400,000 = 400,000
ROCE = Profit before interest and taxes / Capital employed = 500,000 / 400,000 = 1.25
