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Hi
I was going through past papers Dec 2012 Q1 and I found the following in the answer to Q1 i)
“residual income and return on capital employed are less meaningful for a service-based business, since the business will not use a great deal of tangible assets compared to a manufacturing business”
Would it be correct to argue that ROCE can still be of use since service based business can rely heavily on non tangibles like copy-writes, licences, etc which is part of Capital employed
or, does Capital Employed mean only tangibles?
Thank you
There is no real difference between RI and ROCE. The “bottom line” is the same in each.
Neither are very reliable for service based industries because goodwill, brands only appear in the SOFP if purchased. Therefore a large successful organically grown service industry will have relatively low capital on the SOFP.
hello
thank you for coming back to me on this.
Just so I am clear, Capital Employed is Total Assets less current liabilities…
But we assume ( as it happens in reality)that most capital in service business is gone for salaries etc which are expensed and thus are not part of capital employed?
Is that correct?
unelss these have been capitalised as a part of some intangible asset?
thank you!
Capital = total assets – current liabilities.
Salaries and other expenses represent money leaving the company and will reduce capital employed and reduce the profit – whether the company is manufacturing or in the service business.
If something is capitalised eg expenditure on non-current assets or expenditure on R&D (subject to the IFRS rules) then it will form part of capital employed.
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