Yes ROCE can be greater than ROE.
Dupont of the ROE is as below
ROE = RNOA+FLEV(RNOA-NBC),
Where
RNOA = return on net operating assets/ return in invested capital
FLEV = Financial leverage
NBC = net borrowing cost after tax
The drivers for RNOA are operating margins known as the profitability measure and capital turnover known as the efficiency measure.Both of the values can be calculated as below
Operating margins = EBIT/Sales
Capital turnover = sales/invested capital
Product of the above two is the RNOA/ROIC, we also need to apply the tax rate to the final product to get the after tax ROIC.
Coming to the second part of the equation,
FLEV = NFO/Owner’s equity
Where
NFO = net financial obligations, calculated as financial assets - financial liabilities. The ratio implies that for every 1 Re of equity how much is the leverage that the company has. Higher the number more the leverage than the company has.
RNOA - NBC = Operating spread, leverage works only when this spread is positive, that is the company makes more than its after tax borrowing costs. If this spread is negative then leverage will not work for the company.
There may be two cases when the ROCE/ROIC may be greater than the ROE, they are as below
- The operating spread is negative, company borrowing costs are higher than the return on operating assets and the ROE goes down.
- The company has net financial assets, that is financial assets are greater than the financial obligations. The calculation of ROE in this case is as below
ROE = RNOA-(NFA/owner’s equity*(RNOA-RNFA) where
NFA is net financial assets
RNFA is return on net financial assets calculated as net income/financial assets
Positive spread between the RNOA-RNFA reduces the ROE because funds of the company have been invested in financial assets which earn less than the RNOA and hence this drags down the overall ROE.
Hope this helps.
Regards
Chetan Chhabria