This key ratio measures the profitability of a firm taking account of the amount of money it deploys. The formula is profit before interest and tax (PBIT)/equity and debt capital expressed as a percentage. So if PBIT is £80m and total capital employed is £800m then ROCE is (80/800) x 100%, or 10%. The higher, the better.
However, in isolation it means nothing as the key question for an investor is whether they can earn a better return elsewhere. For example, if cash returns are 2% then a ROCE of 10% is attractive. Like other ratios this one suffers from some drawbacks – it doesn’t tell you whether a firm is cheap or expensive, for example, and it also doesn’t tell you how large it is and therefore the absolute level of profits being generated.
• See Tim Bennett’s video tutorial: Six things every investor should know about ROCE.