Switch to:
GuruFocus has detected 5 Warning Signs with Diageo PLC \$DEO.
More than 500,000 people have already joined GuruFocus to track the stocks they follow and exchange investment ideas.
Diageo PLC (NYSE:DEO)
ROC %
15.75% (As of Dec. 2016)

Return on capital measures how well a company generates cash flow relative to the capital it has invested in its business. It is also called Return on Invested Capital (ROIC). Diageo PLC's annualized return on capital (ROC) for the quarter that ended in Dec. 2016 was 15.75%.

As of today, Diageo PLC's weighted average cost Of capital is 4.45%. Diageo PLC's return on capital is 13.69% (calculated using TTM income statement data). Diageo PLC generates higher returns on investment than it costs the company to raise the capital needed for that investment. It is earning excess returns. A firm that expects to continue generating positive excess returns on new investments in the future will see its value increase as growth increases.

Definition

Diageo PLC's annualized Return on Capital (ROC) for the fiscal year that ended in Jun. 2016 is calculated as:

 Return on Capital (ROC) (A: Jun. 2016 ) = NOPAT / Average Invested Capital = Oper. Inc.*(1-Tax Rate) / ( (Invested Capital (A: Jun. 2015 ) + Invested Capital (A: Jun. 2016 )) /2) = 4035.51136364 * ( 1 - 17.35% ) / ( (28934.5794393 + 26598.0113636) /2) = 3335.35014205 / 27766.2954014 = 12.01 %
 Invested Capital (A: Jun. 2015 ) = Book Value of Debt + Book Value of Equity - Cash = Long-Term Debt + Short-Term Debt + Minority Interest + Total Equity - Cash = 12331.7757009 + 2992.21183801 + 2313.08411215 + 12104.3613707 - 806.853582555 = 28934.5794393

 Invested Capital (A: Jun. 2016 ) = Book Value of Debt + Book Value of Equity - Cash = Long-Term Debt + Short-Term Debt + Minority Interest + Total Equity - Cash = 11464.4886364 + 2923.29545455 + 2343.75 + 12116.4772727 - 2250 = 26598.0113636

Diageo PLC's annualized Return on Capital (ROC) for the quarter that ended in Dec. 2016 is calculated as:

 Return on Capital (ROC) (Q: Dec. 2016 ) = NOPAT / Average Invested Capital = Oper. Inc.*(1-Tax Rate) / ( (Invested Capital (Q: Jun. 2016 ) + Invested Capital (Q: Dec. 2016 )) /2) = 5156.05493134 * ( 1 - 21.02% ) / ( (26598.0113636 + 25116.1048689) /2) = 4072.25218477 / 25857.0581163 = 15.75 %

where

 Invested Capital (Q: Jun. 2016 ) = Book Value of Debt + Book Value of Equity - Cash = Long-Term Debt + Short-Term Debt + Minority Interest + Total Equity - Cash = 11464.4886364 + 2923.29545455 + 2343.75 + 12116.4772727 - 2250 = 26598.0113636

 Invested Capital (Q: Dec. 2016 ) = Book Value of Debt + Book Value of Equity - Cash = Long-Term Debt + Short-Term Debt + Minority Interest + Total Equity - Cash = 9365.79275905 + 3424.46941323 + 2220.97378277 + 11827.7153558 - 1722.84644195 = 25116.1048689

Note: The Operating Income data used here is two times the semi-annual (Dec. 2016) operating income data.

* All numbers are in millions except for per share data and ratio. All numbers are in their local exchange's currency.

Explanation

Return on Capital measures how well a company generates cash flow relative to the capital it has invested in its business. It is also called Return on Invested Capital. The reason book values of debt and equity are used is because the book values are the capital the company received when issuing the debt or receiving the equity investments.

There are four key components to this definition. The first is the use of operating income rather than net income in the numerator. The second is the tax adjustment to this operating income, computed as a hypothetical tax based on an effective or marginal tax rate. The third is the use of book values for invested capital, rather than market values. The final is the timing difference; the capital invested is from the end of the prior year whereas the operating income is the current years number.

Why is Return on Capital important?

Because it costs money to raise capital. A firm that generates higher returns on investment than it costs the company to raise the capital needed for that investment is earning excess returns. A firm that expects to continue generating positive excess returns on new investments in the future will see its value increase as growth increases, whereas a firm that earns returns that do not match up to its cost of capital will destroy value as it grows.

As of today, Diageo PLC's weighted average cost Of capital is 4.45%. Diageo PLC's return on capital is 13.69% (calculated using TTM income statement data). Diageo PLC generates higher returns on investment than it costs the company to raise the capital needed for that investment. It is earning excess returns. A firm that expects to continue generating positive excess returns on new investments in the future will see its value increase as growth increases.

Be Aware

Like ROE and ROA, ROC is calculated with only 12 months of data. Fluctuations in the companys earnings or business cycles can affect the ratio drastically. It is important to look at the ratio from a long term perspective.

Related Terms

Historical Data

* All numbers are in millions except for per share data and ratio. All numbers are in their local exchange's currency.

Diageo PLC Annual Data

 Jun07 Jun08 Jun09 Jun10 Jun11 Jun12 Jun13 Jun14 Jun15 Jun16 ROC 17.11 16.95 17.17 16.05 18.41 15.30 18.55 14.56 13.06 12.01

Diageo PLC Semi-Annual Data

 Jun12 Dec12 Jun13 Dec13 Jun14 Dec14 Jun15 Dec15 Jun16 Dec16 ROC 15.37 23.09 14.75 20.73 7.42 15.20 10.19 14.12 10.38 15.75
Get WordPress Plugins for easy affiliate links on Stock Tickers and Guru Names | Earn affiliate commissions by embedding GuruFocus Charts
GuruFocus Affiliate Program: Earn up to \$400 per referral. ( Learn More)