What is capital employed?
- BTEC National
- Pearson BTEC
Last updated 13 Nov 2023
Capital employed refers to the total amount of capital invested in a business for the purpose of generating profits. It represents the funds contributed by both equity and debt holders that are used to finance a company's assets and operations. The concept of capital employed provides insight into the financial structure of a business and the extent to which it utilizes financial resources to generate returns.
The formula for calculating capital employed is:
Capital Employed =
Capital Employed=Shareholders’ Equity+Non-Current Liabilities
Here, the components include:
- Shareholders' Equity:
- This represents the funds contributed by the owners of the company, including common and preferred shareholders. It includes items such as share capital, retained earnings, and additional paid-in capital.
- Non-Current Liabilities:
- Non-current liabilities are long-term obligations that a company owes to external parties. This includes items such as long-term loans, bonds, and other non-current financial liabilities.
The capital employed figure reflects the long-term financial commitment and the total resources that a company has at its disposal to operate and generate profits. It is an important metric for assessing the efficiency of capital utilization and the overall financial health of a business.
Investors and analysts often use capital employed in financial ratios to evaluate a company's performance and return on investment. One commonly used ratio is Return on Capital Employed (ROCE), which is calculated as follows:
ROCE=(Profit Before Interest and Tax (PBIT)Capital Employed)×100ROCE=(Capital EmployedProfit Before Interest and Tax (PBIT))×100
ROCE measures how efficiently a company is using its capital to generate profits. A higher ROCE generally indicates effective capital utilization and better financial performance.
In summary, capital employed is a key financial metric that provides a comprehensive view of the total capital invested in a business, including both equity and long-term debt. It is essential for assessing a company's financial structure, efficiency, and its ability to generate returns for its investors.