Return On Invested Capital (ROIC): 4 Reasons To Use ROIC To Pick Profitable Stocks

Return on Invested Capital (ROIC) is a tool used by value investors to determine whether or not a company has a sustainable advantage over its competitors. Some investors call this sustainable competitive advantage a “moat.” Moat companies tend to dominate the industry niches in which they operate, and the stock market tends to reward investors in these companies with higher share prices as they grow within their market niche.

Return on Invested Capital (ROIC) = Net Operating Profit After Taxes (NOPAT) / Capital Invested Return on invested capital is a good way to spot companies that may have a moat, because it measures how efficiently a company uses your money available to create the profit it generates. If a company has a great return on the capital it invests, especially compared to its competitors, it is probably because the company has a more efficient way of producing its goods or services, or is able to charge prices that allow it to make more profit. margin than its competitors.

Here are 4 reasons why return on invested capital is an indicator you should use to spot companies that may continue to achieve above-average growth:

1) Management Efficiency – ROIC shows how well a management team generates operating profits versus how much money they use to generate those profits
2) Clarifies the income statement: Rather than just focusing on net income (the “E” in the P/E ratio), ROIC uses NOPAT, which removes items like investment income and interest expense (among others), which gives a much clearer picture of how much profit the company is actually generating as a result of its lucrative operations
3) By using investment capital instead of just equity or assets (such as return on equity (ROE) or return on assets (ROA)), return on investment capital uses deployed capital AND debt capital, and eliminates the cash that is in a bank. account charging interest rather than earning income through the business’s operations
4) Companies with a high return on invested capital within their industry are generally leaders, or emerging leaders, within their market niche.

Using the ROIC formula shown above, you can test what this article says by taking a quick visit to MSN Money and comparing the historical performance of Google and Yahoo invested capital rankings (you probably used one of these search engines to find this article) . By looking at the ROIC values ​​of these two companies and looking at their relative stock price performance, you can find the results illuminating.

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