Why use roic

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This website and our partners set cookies on your computer to improve our site and the ads you see. If company A buys company B for a ridiculously high sum or gets it on the cheap, the cash on cash economics of company B does not change.

So in modeling future cash flows, we develop a view of ROIC as defined above and then use that rate of return when thinking about cash that a company may invest in growing its business.

For readers interested in learning the intricacies of this framework, we suggest the book Valuation: Measuring and Managing the Value of Companies , by McKinsey. At the end of the day, the most important thing is not how you define a formula but the degree to which it is useful in helping you make good decisions.

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Please follow the link above for additional disclosure information. Sean's LinkedIn Profile. Some of that capital is sitting idle i. Cash balance is a common example of idle capital. Moreover, the net operating assets could be said to be invested capital. They include:. Another way of approaching the invested capital is to look at the amount of capital that investors have given to the business.

We will end off with the same answer, so an example is the best way to illustrate this:. Capital employed is calculated by taking the assets used in the operations less the liabilities used in the operations.

NOPAT is the return generated by invested capital. Invested capital is before adding cash and subtracting debt, so we must compare it to earnings before any interest lines.