What is Capital Employed?

Explained

In simple words, capital employed is the total funds deployed for running the business with the intent to earn profits and is usually calculated in two ways a) Total Assets minus Current Liabilities or b) Non-Current Assets + Working Capital.

A higher value of Capital Employed, especially when a significant chunk of it is not sourced from shareholders’ equity, indicates a higher risk level. Though the higher level of risk might make investors wary of investing in the company, it also hints at aggressive business expansion plans, which, if successful, could result in much higher returns on investments.

Capital Employed Formula

Formula #1

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  • Here total assets include fixed assets at their net value. Some prefer to use the original cost, but others use replacement cost after depreciation.This is added to any Cash in hand, cash at the bank, bills receivable, stock, and other current assets.Finally, all capital investments in businessCapital Investments In BusinessCapital Investment refers to any investments made into the business with the objective of enhancing the operations. It could be long term acquisition by the business such as real estates, machinery, industries, etc.read more operations are added to these items to arrive at the value of total assets in this calculation.Next, subtract current liabilities from the value arrived at for total assets.

Formula #2

Non-current assets are long-term assets whose full value cannot be realized within the current financial year. It typically includes fixed and intangible assets, brand recognition, and intellectual property. This formula also includes any investments made in other businesses.

Working capitalWorking CapitalWorking capital is the amount available to a company for day-to-day expenses. It’s a measure of a company’s liquidity, efficiency, and financial health, and it’s calculated using a simple formula: “current assets (accounts receivables, cash, inventories of unfinished goods and raw materials) MINUS current liabilities (accounts payable, debt due in one year)“read more can be defined as a quick measure of the operational efficiency of a company and its overall financial health.

Working Capital = Current Assets – Current Liabilities.

Example

All of the figures utilized for Capital Employed calculationCapital Employed CalculationCapital employed indicates the company’s investment in the business, i.e., the total amount of funds used for expansion or acquisition and the entire value of assets engaged in business operations. “Capital Employed = Total Assets - Current Liabilities” or “Capital Employed = Non-Current Assets + Working Capital.“read more can be found on the balance sheet of the company.

Calculation using 1st Formula

  • To calculate this for Company ABC based on the first method, we look for the figure against “Total assets.” Let us suppose it is $42000000.Next, we look for the figure against “Total Current Liabilities,” as listed in the balance sheet. Let us suppose this figure is $25000000.

Now, we calculate like this:

  • CE = Total Assets ($42000000) – Current Liabilities ($25000000) = $17000000

Calculation using 2nd Formula

The second method would require looking up the following measures on the balance sheet of Company ABC, non-current assets, current liabilities, and current assets. We can find both current and noncurrent assets listed in the Assets section of the balance sheet and current liabilities in the Liabilities section.

  • Let us suppose, Non-Current Assets = $105 MillionCurrent Liabilities = $54 MillionCurrent Assets = $65 MillionNow, we calculate like this:CE = Non-Current Assets ($105000000 + Working Capital (Current Assets ($65000000) – Current Liabilities($54000000))= $105 Million + $11 Million = $116 Million

Use and Relevance

Generally, it is put to good use in estimations on how well a company might be using its capital to enhance its profitabilityProfitabilityProfitability refers to a company’s ability to generate revenue and maximize profit above its expenditure and operational costs. It is measured using specific ratios such as gross profit margin, EBITDA, and net profit margin. It aids investors in analyzing the company’s performance.read more. It is achieved by calculating Return on Capital EmployedReturn On Capital EmployedReturn on Capital Employed (ROCE) is a metric that analyses how effectively a company uses its capital and, as a result, indicates long-term profitability. ROCE=EBIT/Capital Employed.read more

EBIT is also known as operating incomeOperating IncomeOperating Income, also known as EBIT or Recurring Profit, is an important yardstick of profit measurement and reflects the operating performance of the business. It doesn’t take into consideration non-operating gains or losses suffered by businesses, the impact of financial leverage, and tax factors. It is calculated as the difference between Gross Profit and Operating Expenses of the business.read more, divided by the figure for employed capital to get ROCE. It is especially useful in comparing capital utilization in companies operating in capital-intensive industries.

Capital Employed Calculator

You can use the following Calculator

Capital Employed in Excel (with excel template)

It is straightforward. In the first method, You need to provide the two inputs of Total Assets and Total Current Liabilities. And in the second method, you need to provide the three inputs of Non-Current AssetsNon-Current AssetsNon-current assets are long-term assets bought to use in the business, and their benefits are likely to accrue for many years. These Assets reveal information about the company’s investing activities and can be tangible or intangible. Examples include property, plant, equipment, land & building, bonds and stocks, patents, trademark.read more, Current Liabilities, and Current Assets.

Calculation by First Method

Calculation by Second Method

You can download this template here – Capital Employed Excel Template

Video on Capital Employed Ratio

This article has been a guide to capital employed and its definition. Here we discuss the formula to calculate capital Employed, practical examples and their uses, and a downloadable excel template. You may also refer to the following to learn more about Financial Ratios.

  • Book Value FormulaBook Value FormulaThe book value formula determines the net asset value receivable by the common shareholders if the company dissolves. It is calculated by deducting the preferred stocks and total liabilities from the total assets of the company.read moreCurrent Assets ListTypes of Current Assets ExamplesCurrent Assets FormulaCurrent Assets FormulaThe formula for current assets is derived by adding all of the assets on the balance sheet that can be converted to cash in less than a year. Cash, cash equivalents, account receivables, inventories, marketable securities, prepaid expenses, and other current assets are the most common.read more