The difference between ROE and ROCE is that ROE (Return on Equity) measures the profitability relative to shareholders’ equity, while ROCE (Return on Capital Employed) evaluates how efficiently a company uses its total capital, including debt, to generate profits.
What Is ROCE?
ROCE (Return on Capital Employed) is a financial ratio that measures a company’s profitability in relation to its total capital employed. It shows how effectively a business uses both equity and debt to generate profits. A higher ROCE indicates better efficiency in using capital.
ROCE is calculated by dividing earnings before interest and taxes (EBIT) by the total capital employed (equity + debt). This ratio is valuable for comparing companies in capital-intensive industries, as it reflects how well a company utilizes its overall capital to generate returns. Investors and analysts often use ROCE to gauge long-term profitability and efficiency in capital management.
If a company has EBIT of ₹50 lakhs and its total capital employed (equity + debt) is ₹200 lakhs, the ROCE is calculated as: ROCE = (₹50 lakhs ÷ ₹200 lakhs) × 100 = 25%. This means the company generates a 25% return on every ₹100 invested in its capital.
What Is ROE?
ROE (Return on Equity) is a financial metric that indicates how effectively a company generates profit from its shareholders’ equity. It helps determine how well a company is using its equity capital to create earnings. A higher ROE suggests the company is more efficient in converting equity into profits.
ROE is determined by dividing a company’s net income by its total shareholders’ equity. It is widely used by investors to assess the potential profitability of a company, especially when comparing companies within the same industry. Companies with a strong ROE are generally seen as better performers in terms of equity utilization.
Suppose a company earns a net income of ₹30 lakhs and has ₹150 lakhs in shareholders’ equity. The ROE would be calculated as: ROE = (₹30 lakhs ÷ ₹150 lakhs) × 100 = 20%. This indicates that the company is generating a 20% return on the equity provided by its shareholders.
Difference Between ROCE and ROE
One of the primary differences between ROCE and ROE is that ROCE considers both equity and debt to assess profitability, while ROE focuses solely on how efficiently a company uses shareholders’ equity to generate profits. This makes ROCE more comprehensive in evaluating overall capital utilization.
| Parameter | ROCE (Return on Capital Employed) | ROE (Return on Equity) |
| Capital Considered | Includes both debt and equity | Considers only shareholders’ equity |
| Profit Measure | EBIT (Earnings Before Interest and Taxes) | Net income after tax |
| Usage | Best for capital-intensive industries | Best for evaluating equity efficiency |
| Purpose | Measures overall efficiency of capital | Measures how well equity is used |
| Focus | Total capital efficiency | Equity capital efficiency |
What Is A Good ROCE?
A good ROCE is typically considered to be 20% or more. This suggests that the company is using its capital efficiently to generate strong returns. A higher ROCE reflects solid financial management and the ability to use both debt and equity to drive profits.
Generally, a ROCE of 20% or above is regarded as a benchmark for effective performance, especially in capital-heavy industries. It indicates that the company can efficiently convert its capital into profit. However, what qualifies as a “good” ROCE can vary between industries, as capital requirements differ. Therefore, comparing a company’s ROCE with industry averages or competitors can give better insights into its performance.
What Is A Good ROE Ratio?
A good ROE ratio typically falls between 15% and 20%. This range shows that the company is efficiently using the equity provided by shareholders to generate profit. A higher ROE suggests stronger returns and effective financial management from the company.
An ROE of 15% to 20% is considered a solid indicator of financial health in many industries. However, what qualifies as a good ROE can vary depending on the sector, as different industries have different capital structures. Comparing a company’s ROE with the industry average or its peers helps assess its efficiency in generating returns on equity investments.
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What Is the Difference Between ROE and ROCE? – Quick Summary
- The key difference between ROE and ROCE is that ROE measures profitability based on shareholders’ equity, while ROCE evaluates returns generated from total capital employed, including both equity and debt.
- ROCE measures how effectively a company uses its overall capital (equity and debt) to generate profits. It’s crucial for comparing capital-intensive industries.
- ROE evaluates how efficiently a company generates profits using shareholders’ equity. A higher ROE signifies better equity utilization.
- A good ROCE is typically considered 20% or higher, indicating efficient use of capital to generate strong returns for investors.
- A good ROE ratio generally falls between 15% and 20%, showing that the company is efficiently converting shareholders’ equity into profits.
- One of the major distinctions between ROCE and ROE is that ROCE considers total capital (equity and debt), while ROE focuses only on shareholders’ equity. Both provide insight into profitability from different perspectives.
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ROE Vs ROCE- FAQs
ROCE is calculated as EBIT ÷ (Total Capital Employed), where total capital includes both equity and debt. ROE is calculated as Net Income ÷ Shareholders’ Equity, focusing solely on profits generated from shareholders’ investments.
A good ROCE is typically 20% or higher, indicating that the company is using its capital, both equity and debt, efficiently to generate strong returns, which reflects solid financial management and profitability.
A good ROE ratio is generally between 15% and 20%, which signals that the company is effectively utilizing shareholders’ equity to generate profits, reflecting efficient management and healthy financial performance.
If ROCE is less than ROE, it could indicate that the company is relying more on debt to generate returns. Higher reliance on debt may increase financial risk, affecting long-term stability.
The major disadvantage is that ROCE doesn’t account for short-term profitability fluctuations, and it may not accurately reflect performance in companies with low capital requirements. It also overlooks non-operating factors like taxes and interest expenses.
No, a negative ROCE is not good. It suggests that the company is not generating enough profit from its capital, possibly indicating inefficiencies or losses, which could be concerning for long-term sustainability.
