Growth creates value only when returns exceed the cost of capital.
| Concept | Explanation | |---|---| | Return on equity (ROE) | Net income relative to shareholders' equity. | | Return on assets (ROA) | Profit relative to the asset base. | | Return on invested capital (ROIC) | Operating profit after tax relative to capital invested in operations. | | Incremental return | Return generated by newly invested capital. | | Cost of capital | Required return demanded by providers of debt and equity. |
Key idea: Growth creates value when the return on incremental capital exceeds the cost of that capital.