Skip to content
mindbodybusiness

mindbodybusiness

The business effect

Primary Menu
  • Business Finance & Support
  • Business & Finance News
  • Financial Function
  • Business Effective
  • Business Market
  • Largest Business
  • About Us
    • Advertise Here
    • Contact Us
    • Privacy Policy
    • Sitemap
  • Home
  • 1 Metric All Investors Should Consider Before Buying a New Stock | Personal-finance
  • Business Effective

1 Metric All Investors Should Consider Before Buying a New Stock | Personal-finance

By Jackie Patricia 3 years ago

Table of Contents

Toggle
    • People are also reading…
  • What is ROIC?
  • Calculating ROIC
  • Real world example of ROIC
  • An important tool to add to your repertoire


(Mark Blank)

In 1999, Barron’s published an article titled “Amazon.bomb,” which predicted the e-commerce company’s impending demise. The author of the piece repeatedly cited Amazon‘s lack of profitability as an indication that the business was poorly run and highly overvalued.

Hindsight being 20/20, it’s obvious Barron’s got it wrong on the quality of Amazon’s management team. And yet, 23 years later, we find ourselves in a similar environment, with skeptics making familiar claims about less profitable growth companies.

To be fair to the critics, stocks did become highly overvalued in the last couple of years. But history has shown us that you cannot rely on a single valuation metric like the price-to-earnings (P/E) ratio, to judge the quality of a company.

People are also reading…

One less-utilized metric that gives investors a contextual view into the efficiency of a company’s management team is known as return on invested capital (ROIC).

Image source: Getty Images.

What is ROIC?

ROIC is a measurement of how effectively the leadership team of a business generates a return on the capital it deploys. And it’s one of the most important valuation tools for investors to understand.

As an early investor, I heard statements like “buy quality companies and let them compound” countless times. While that sounds simple, the definition of quality is broad and subjective, depending on who you’re talking to.

That’s why I like ROIC. It’s not subjective; it’s a quantitative measurement of how well a company is allocating its cash.

Calculating ROIC

Calculating ROIC is a little more involved than other metrics like the P/E ratio. But bear with me — it’s not that scary.

Net operating income after taxes (NOPAT)/ invested capital (IC)

Before you can calculate ROIC, you’ll first need to generate values for the numerator and the denominator.

NOPAT represents the earnings a company would make if it had zero debt. To calculate this, simply multiply the company’s operating profit by 1 minus the tax rate.

The operating profit can be found on the income statement, and the tax rate can be easily derived by dividing the income before tax by the tax expense (both of which can also be found on the income statement). Here’s the formula for NOPAT:

NOPAT = operating profit (1-tax rate)

From there, you will need to calculate the numerator in our ROIC formula – invested capital. To get this number, head over to the liabilities section of the balance sheet and add up the long-term (or noncurrent) and short-term (current) debt, which is known as total debt. Subtract the cash and cash equivalents from the total debt to arrive at net debt.

The last step in calculating invested capital is to add the total equity from the balance sheet to the net debt you just produced. And now you have your ROIC denominator. Here’s the formula:

Invested capital = net debt + total equity

Now that you have both your numerator and denominator, simply divide NOPAT by invested capital and you’ll arrive at the company’s ROIC. ROIC varies by industry so its important to compare a company’s return on capital to competitors in the same space. But generally speaking a ROIC that is above 20% is high, and rising ROIC indicates a business that’s improving over time.

Real world example of ROIC

Here’s an example using Apple’s 2021 financials :

The NOPAT is calculated by multiplying the operating income, $109 billion, by 1 less the tax rate. Apple’s tax rate is 13% or .13 so to calculate Apple’s NOPAT we simply multiply $109 billion by 0.87 which equals $95 billion.

Next we need Apple’s invested capital which is its net debt, $84 billion, + its total equity, $63 billion, which equals $147 billion.

Finally, to produce the current ROIC, simply divide Apple’s NOPAT by its invested capital:

$95 billion (NOPAT) / $147 billion (invested capital) = 64% (ROIC)

That number by itself gives us insight into how incredibly efficient Apple was in 2021 at earning a return on the cash it invested into its business.

But if we extend the calculation several years back, we get further insight into how the company’s ROIC has changed over time:

Year

ROIC

2017

21%

2018

32%

2019

37%

2020

42%

2021

64%

Here we see that not only is Apple generating a very high ROIC as of 2021, but it’s also been steadily growing its ROIC over the last five years.

There are various other methods for calculating ROIC that might produce slightly different percentages, but what’s most important is to look at the trend of ROIC over time. You should be looking for companies that are becoming more efficient with their capital (i.e., increasing their ROIC year-over-year), not less.

An important tool to add to your repertoire

ROIC certainly doesn’t replace other metrics and analysis, but it’s a highly effective tool at determining the quality of the management team and the overall trajectory toward higher profitability.

Earnings growth alone tells investors nothing about how much capital the business had to sink into the company to achieve that growth rate. By looking at ROIC, we can see if a business is getting an increasingly better rate of return on its investments or if it’s slowly burning more capital to maintain a high growth rate. The latter should be a big red flag for investors.

10 stocks we like better than Walmart

When our award-winning analyst team has an investing tip, it can pay to listen. After all, the newsletter they have run for over a decade, Motley Fool Stock Advisor, has tripled the market.*

They just revealed what they believe are the ten best stocks for investors to buy right now… and Walmart wasn’t one of them! That’s right — they think these 10 stocks are even better buys.

Stock Advisor returns as of 2/14/21

John Mackey, CEO of Whole Foods Market, an Amazon subsidiary, is a member of The Motley Fool’s board of directors. Mark Blank has no position in any of the stocks mentioned. The Motley Fool has positions in and recommends Amazon and Apple. The Motley Fool recommends the following options: long March 2023 $120 calls on Apple and short March 2023 $130 calls on Apple. The Motley Fool has a disclosure policy.

Get the latest local business news delivered FREE to your inbox weekly.

Tags: Amazon Business Login, Amazon Business Prime, Bank Of America Business Account, Best Business Schools, Business Attorney Near Me, Business Bank Account, Business Card Holder, Business Card Maker, Business Card Template, Business Cards Near Me, Business Casual Attire, Business Casual Shoes, Business Casual Woman, Business Plan Examples, Ca Business Search, Ca Sos Business Search, Capital One Business Credit Card, Chase Business Checking, Chase Business Credit Cards, Chase Business Customer Service, Chase Business Login, Chase Business Phone Number, Cheap Business Cards, Citizens Business Bank, Cox Business Login, Digital Business Card, Facebook Business Suite, Finance In Business, Free Business Cards, Google Business Login, Harvard Business School, Lands End Business, Massage Parlor Business Near Me, Michigan Business Entity Search, Mind Your Business, Mind Your Own Business, Ohio Business Search, Risky Business Costume, Skype For Business, Small Business Loan, Small Business Saturday 2021, Starting A Business, Texas Business Entity Search, Triumph Business Capital, Vending Machine Business, Verizon Business Customer Service, Vonage Business Login, Wells Fargo Business Account, Yahoo Small Business, Yahoo Small Business Login

Continue Reading

Previous New UK Finance Minister Zahawi Inherits Faltering Economy, Soaring Inflation | Investing News
Next Report suggests games market might see decline in 2022
June 2025
M T W T F S S
 1
2345678
9101112131415
16171819202122
23242526272829
30  
« May    

Archives

Recent Posts

  • What’s Next for China-US Trade Relations? Experts Weigh In
  • Winners and Losers in the China-US Trade War Truce
  • Mastering Risk Management in Financial Planning
  • Financial Planning Tips Every Investor Should Know
  • Trump vs Biden Debate Analysis: Who Came Out on Top?

BL

Tags

""Succeeded His Business"" 2 Of Cups Business 525 Business 5 Bankruptcies Accounting Business Letter To Client Att Business Login Bracken Business Communications Clinic Business Account No Deposit Business Administration Fafsa Business Balance Sheet Explained Business Card Business Card Printing La Plata Business Cards Media Bar Business Card To Secret Website Business Central Png Business Coaching Site Cloudfront Business Contract Lawyer 47201 Business Marketing Pearson Quizlet Business Milleage Leager 18 Business Mobile Broadand Plans Business Plan For Supplement Company Business Plan Loan Originayor Disrupting Digital Business Harvard Ffiec Business Continuity Templates Gauge Ear Piercing Business Good Openings For Business Letters Holton Investment Business Indianapolis Business Times Indiana Wesleyan University Business List Business In Search Engines List My Business Yahoo Lunch Susbcription Business Model Morgan Hill Business Liocense Renewal Nee Small Business Bill Signed Negotiating Business Acquisitions Practical Law Networking Trends Small Business New Business In Shorewood Il School Business Officer Being Unethical Small Business Administration Mass Small Business Comunity Small Business Corporation South Africa Small Business Depew Llc Small Business Medical Offices Chicago Small Business Office Lakewood Nj Small Business Plans Verizon Small Business Storage Array

Partner Links

existinglaw
39116gallery

links

Beyond Stock Riseup
Harmony in Health Synergic

BR

thymeagent
tomatoagent

bp

backlinkplacement.com

mindbodybusiness.xyz | Magazine 7 by AF themes.

WhatsApp us