Skip to main content

Sustainability of Business-ROCE(Return on Capital Employed) & new ROCE(Return on Climate & Environment)-an Integrated approach

 

Sustainability of Business-ROCE(Return on Capital Employed) & new ROCE(Return on Climate & Environment)-an Integrated approach



 

ROCE(Return on Capital Employed), according to Warren Buffet, is an important Financial Ratio that is used for measuring the combined effect of Profitability of the Business and the Productivity of the Business assets which can sustain its value. 

Profitability is measured in terms of  Return on Sales and Productivity is measured in terms of how well the Assets of the Business are put to use by looking at Assets Turnover.

(1)The formula used for calculating Return on sales is PBIT less Tax/Net Sales.

(2)The formula for calculating Turnover on Assets is Net Sales/(Net Fixed Assets+Net Current Assets i.e(Current Assets-Current Liabilities)

(3) the formula for calculating Return on Capital Employed(ROCE) is obtained by Multiplying (1)X(2)- (calculated for every year separately in the example given below)

The following is a real example of a trend of ROCE of a Business over the years ,that has three Verticals:

Belts, Oilseals and Engineering.The composite business is called Polymer.

 




Now for this Business ,an analysis is done and the ways of how to improve the ROCE of this Business have been identified. This is as follows:

                               

                            How to Improve ROCE of the Business


 This ROCE improvement Plan can be built through Balanced Scorecard Methodology.(The Balanced Scorecard;Measures that drive Performance-HBR-1992 by Dr.Robert S.Kaplan and David P.Norton )

EVA Ratio-"Economic Value Added"(Stern Value Management) of the Business, which is the Economic Profit of the Business can also be considered as the Ultimate Financial goal of a Business . The EVA is NOPAT(Net Operating Profit After Tax)- (Invested Capital*WACC) where Invested Capital includes both Equity & Debt and WACC is Weighted Average Cost of Invested Capital. In this WACC, the cost of Debt i.e Borrowed capital is calculated Net of Taxes, where the local Income/Corporate Tax policies allow deduction for the Interest paid on Borrowed Capital and the Dividend payable/expected by Shareholders is considered as the Cost of Equity.When EVA is integrated with Value-Based Management that becomes the key to Sustainable Value Creation by any Organisation(Stern Value Management-1993- “The Real key to Creating Wealth”).

 

A sample of Strategy Map developed with EVA &ROCE Ratios being tracked on Quarterly basis by comparing Actuals vs Target ,under Balanced Scorecard Methodology for a Co. in India is given below:


 

The benefits of drawing out a Strategy Map like this on Financial perspective built on Financial Ratios at the pinnacle, and Customer ,Operational and Learning & Growth perspectives are many due to interplay of cross-functional interactions and improvements flowing through the entire organisation. When this happens the organisation functions as a one whole being with all its parts working in Sync, Synergistic & Sustainable ways.

On an external environment, it is like all the players of a Team planning a carefully laid out Strategy in a tournament for winning a World cup in Soccer or Cricket!!

Since, the world has already moved into Sustainable Business models with 3Ps as the focus-Profit, People and Planet, and is now rapidly moving into Sustainable business through harmonious assimilation of Environment,Social and Governance values into Business Sustainability(The Investor Revolution-HBR-May-june 2019 bySvetlena Klimenko and Robert G.Eccles).

Now, we have reached a point where we need to integrate traditional ROCE-Return on Capital Employed with the new Return on Climate and Environment.  ESG reporting in India started in 2009 with the Ministry of Corporate Affairs (MCA) issuing the Voluntary Guidelines on Corporate Social Responsibility, since then the reporting landscape has come a long way with the introduction of Business Responsibility Reporting (BRR), Corporate Social Responsibility (CSR), IR, National Guidelines on Responsible Business Conduct (NGRBC) and the newly introduced Business Responsibility and Sustainability Report (BRSR) (introduced through a SEBI circular dated 10th May 2021).

World Economic forum on its part has come out with set of 21 core and 34 widened metrics and disclosures in its report “Measuring Stakeholder Capitalism:Towards Common Metrics and Consistent Rporting of Sustainable Value Creation “(WEF report,2020), as an extension of Stakeholder Capitalism Metrics standing on 4 pillars-People,Planet,Prosperity and Principles of Governance.

For future growth of the Sustainable Business Value Creation the integration of these metrics with Financial Metrics, is sine-qua-non.

 

 

Comments

Post a Comment

Popular posts from this blog

How to prepare for the consequences of Iran war

  The COVID-19 pandemic has taught us valuable lessons about resilience in business. One key takeaway is the importance of conserving cash and other resources that may become scarce during challenging times. Businesses must prioritize financial prudence to sustain operations and navigate uncertainties effectively. This approach not only helps in weathering immediate crises but also positions organizations for long-term stability and growth. Reflecting on these lessons can guide future strategies and enhance preparedness for any unforeseen events.
Post a Comment
Read more

Why Indian Rupee is falling steeply against US dollar?

  The Indian Rupee recently crossed the 97 mark against the US Dollar, and it doesn't seem to be slowing down. If you've been tracking exchange rates or planning a trip abroad, you've probably felt the pinch. Everything from imported electronics to cooking oil is getting more expensive. And your money just doesn't stretch as far as it used to. This isn't a one-day blip. The rupee has been on a steady downward slide for months, and the reasons go deeper than most headlines suggest. It's a mix of what's happening inside India's economy and what's happening across the globe. Trade deficits, foreign investors pulling out money, rising oil prices, the US Federal Reserve keeping interest rates high — all of these are pulling the rupee in the wrong direction at the same time. In this post, we'll break down the key domestic pressures weighing on the rupee and the global forces making the US Dollar stronger. We'll also look at what the Reserve Bank ...
Post a Comment
Read more

Hanuman and Ganesha!

  The two major loved deities of the Hindu pantheon are Hanuman and Ganesha. Let us dwell into the concepts and significance of these two dieties. Ganesha, the son of Parvati and Shiv, is worshipped first before starting any new job or work. Even if you want to start writing or reading , you invoke the blessings of Lord Ganesha who goes under various names- Ganapathi, Vigneshwar, Vinayak, and  Pillayar in Tamilnadu. Ganesha Gayathri, Pancharatnam are some of the important Ganesha mantras and hymns. Adi Ganesha idol is in a Temple near Tiruvarur in Tamilnadu with a human face.The mythological story says that Shiv slew His head and then fixed the head of the animal that He saw first after this beheading of His son. Ganesha after that with the elephant head is worshipped as the wisdom god by Hindus. Why only Hindus. He is worshipped in Indonesia where He finds Himself in their currency notes. He is considered the destroyer of evil in Japan. In Mexico, Ganesha idols were said to h...
Post a Comment
Read more