Casino companies use significant amounts of debt capital to fund their acquisitions. Return on invested capital (or ROIC) is an important metric that shows how effectively a company employs its capital. A higher ratio denotes that more dollars of profits are generated by each dollar of capital employed. ROIC should be higher than the company’s weighted average cost of capital (or WACC); otherwise, it indicates that the company is not employing its capital effectively.
ROIC is calculated by dividing earnings before interest taxes (or EBIT) divided by the employed capital.
The above chart shows that Wynn Resorts’ (WYNN) return on capital employed (or ROCE) has been greater than its WACC over the last three years. Most importantly, Wynn Resorts’ WACC has been declining since March 2014, which is a positive sign for the company and its investors, despite such heavy debt burden of ~$7.34 billion relative to equity value of ~$1.2 billion in its capital structure.
Why ROIC is useful
ROCE is useful for companies in a capital-intensive industry such as casinos. Unlike return on equity (or ROE), which only analyzes profitability related to a company’s equity capital, ROCE captures the effect of debt capital as well. This provides a better indication of financial performance for casino companies like Caesars Entertainment (CZR), Boyd Gaming (BYD), and MGM Resorts (MGM) with leverages in excess of 70% in their capital structures. These companies are components of exchange-traded funds (or ETFs) like Consumer Discretionary Select Sector Standard and Poors depositary receipt (or SPDR) (XLY).