Return on Average Capital Employed - ROACE

DEFINITION of 'Return on Average Capital Employed - ROACE'

A financial ratio that shows profitability compared to investments made in new capital. "Return on average capital employed" is calculated as:


EBIT
Average Total Assets - Average Current Liabilities



Total Assets - Current Liabilities = Capital Employed



It differs from the "return on capital employed" (ROCE) calculation, in that it takes the average of the opening and closing capital for a period of time, as opposed to only the capital figure at the end of the period.

BREAKING DOWN 'Return on Average Capital Employed - ROACE'

Return on average capital employed is a useful ratio when analyzing businesses in capital-intensive industries, such as oil. Businesses that are able to squeeze higher profits from a smaller amount of capital assets will have a higher ROACE than businesses that are not as efficient in converting capital into profit.



Investors should be careful when using the ratio since capital assets, such as a refinery, can be depreciated over time. If the same amount of profit is made from an asset each period, the asset depreciating will make ROACE increase because it is less valuable. This makes it look as if the company is making good use of capital, though it is really not making any additional investments.

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