Question 10.2: Consider the following information, for last year, concernin...
Consider the following information, for last year, concerning two different businesses operating in the same industry:
| Antler Ltd
$m |
Baker Ltd $m |
|
| Operating profit | 20 | 15 |
| Average long-term capital employed | 100 | 75 |
| Sales revenue | 200 | 300 |
The ROCE for each business is identical (20%). However, the manner in which that return was achieved by each business was quite different. In the case of antler Ltd, the operating profit margin is 10% and the sales revenue to capital employed ratio is 2 times (so ROCE = 10% × 2 = 20% ). In the case of Barker Ltd, the opening margin is 5% and the sales to capital employed ratio is 4 times (and so ROCE = 5% × 4 = 20%).
This demonstrates that a relatively high sales revenue to capital employed ratio can compensate for a relatively low operating profit margin. Similarly, a relatively low sales revenue to capital employed ratio can be overcome by a relatively high operating profit margin. In many areas of retail and distribution (e.g. supermarkets and delivery services), operating profit margins are quite low but the ROCE can be high, provided that the assets are used productively (i.e. low margin, high sales revenue to capital employed).