## What is ROIIC?

The **Return on Incremental Invested Capital (ROIIC)** measures capital allocation efficiency by comparing the change in a company’s NOPAT relative to its invested capital.

Often used interchangeably with the term incremental return on invested capital, the ROIIC reflects the incremental return generated on a capital investment.

Table of Contents

- How to Calculate Return on Incremental Invested Capital (ROIIC)
- What is the Difference Between ROIC vs. ROIIC?
- Return on Incremental Invested Capital Formula (ROIIC)
- What is a Good ROIIC Ratio?
- Illustrative ROIIC Calculation Example
- ROIIC Calculator
- Return on Incremental Invested Capital Calculation Example (ROIIC)

## How to Calculate Return on Incremental Invested Capital (ROIIC)

The return on incremental invested capital (ROIIC), or “incremental return on invested capital”, is the ratio between the change in NOPAT over the course of a given period and the invested capital from the preceding period.

In practice, the incremental return on invested capital measures the operating performance of a company and the long-term sustainability of its business model.

The traditional return on invested capital (ROIC) metric is calculated as NOPAT divided by the average invested capital.

**ROIC =**NOPAT

**÷**Average Invested Capital (IC)

**NOPAT**→ NOPAT stands for “Net Operating Profit After Taxes” and represents the operating profits of a company, assuming no financial leverage, i.e. no debt on the balance sheet (and thus, no interest expense). Since NOPAT is a capital structure-neutral measure of profit (and no cash), the metric can be utilized for purposes related to comparability across different companies.**Average Invested Capital (IC)**→ The average invested capital component is the denominator of the ROIC formula. The invested capital can be viewed as the net assets necessary for a business to operate, or the amount of funding required from capital providers to fund the purchase of the net assets.

**Conceptually, the return on incremental invested capital (ROIIC) is the return earned on the most recent dollar allocated by a company to fund its growth initiatives.**

The timing represented by the metric inputs must be correct – otherwise, the analysis will be misleading – so, it is critical to confirm the correct figures are input into the formula.

In general, companies that exhibit a consistent return on invested capital (ROIC) ahead of their peers are most often capable of outperforming them over the long term in terms of growth and profit margins, which the ROIIC can confirm.

Therefore, the ROIC is more of a historical measure of a company’s efficiency at capital allocation, whereas the ROIIC is more oriented around the efficiency of management’s more recent spending initiatives.

## What is the Difference Between ROIC vs. ROIIC?

ROIC and ROIIC are each practical measures to determine the efficiency at which a company’s management team can allocate capital into profitable investments.

**ROIC**→ While the ROIC metric is far more commonly used, the implicit assumption that the company’s ROIC will remain constant (or close to it) is one of its shortcomings. The analysis of companies, particularly in the context of corporate valuation, is on a forward-looking basis.**ROIIC**→ Since a company’s current ROIC will inevitably change over the course of time – albeit by how much is unpredictable – the return on incremental invested capital (ROIIC) can be a more practical method to grasp the current state of the company’s efficiency at capital allocation and near-term growth trajectory.

The historical ROIC of a company could perhaps offer useful insights to guide forecast models, yet the assumption that a company’s ROIC will remain constant over the long run is not always a plausible outcome, to say the least.

Therefore, the return on incremental invested capital measures the relationship between the company’s incremental earnings and the incremental spending on investments.

## Warren Buffett Quote on Reinvesting Capital

“The best business to own is one that over an extended period can employ large amounts of incremental capital at very high rates of return.”

– Warren Buffett, Berkshire Hathaway (Source: 1992 Shareholder Letter)