Question 26.Q11: Return on capital employed (ROCE) has increased from 28% in ...
Return on capital employed (ROCE) has increased from 28% in 20X2 to 35% in 20X3.
Which of the following statements relating to this increase is/are correct?
1 An increase in profit margin in 20X3 could account for the increase in ROCE
2 The increase suggests the company is more efficient in employing its resources in 20X3 compared to 20X2
3 If profit margin has remained constant, the increase in ROCE suggests a decrease in asset turnover
A 1 and 2 only
B 2 and 3 only
C 1 and 3 only
D All three statements are correct
A Remember that:
Profit margin × Asset turnover = ROCE
\therefore \quad \frac{\text { PBIT }}{\text { Sales }} \times \frac{\text { Sales }}{\text { Capital employed }}=\frac{\text { PBIT }}{\text { Capital employed }}Therefore 1 is correct and 3 must be incorrect. ROCE measures how efficiently a company is employing its resources, therefore an increase in ROCE suggests that the efficiency of the company is improving.