Question

It is April 2018 and Mark is a novice investor who wants to decide between purchasing shares in EagleCorp or Myna Bird Inc. In fiscal year 2017, EagleCorp's return on invested capital (ROIC) was 15 percent, and its cost of capital was 12 percent. During the same period, Myna Bird Inc.'s ROIC was 22 percent and its cost of capital was 25 percent. What does this information tell Mark?

Answer 1

EagleCorp is more likely to create value while Myna Bird Inc. is more likely to destroy value.

Step-by-step explanation:

As a rule of thumb, if a firm's ROIC is greater than its cost of capital, it generates value; if it is less than the cost of capital, the firm destroys value.

Since EagleCorp's ROIC was greater than its cost of capital, the company is more likely to create value. Myna Bird Inc., on the other hand, had a cost of capital that exceeded its ROIC, and was thus more likely to destroy value. Mark would be wise to invest his money in EagleCorp.