Let's take a look at invested capital.

So if we look at a business's balance sheet at book value on the bottom right hand side, we've got equity.

And that's an example of capital debt is also an example of capital.

Now, not all of that capital has been invested.

Some of that capital is sitting idle.

And this example, we've got cash that's not invested in the operational business.

However, the net operating assets at book value could be said to be invested capital and they would include things like inventories, accounts receivable, accounts payable, and property plant and equipment.

So we thought about what makes up invested capital, let's think about the return on that invested capital.

Well back to the balance sheet again, equity generates net income debt generates interest expense cash generates interest income.

And you'll notice that I'm working from the bottom up the income statement.

So if we take net income, adjust for interest expense, adjust for interest income, we're left with ebit, we could tax adjust that.

That would give us net operating profit after tax notepad.

So we're saying that the net operating assets or the invested capital of the business generate notepad.

So we could take a look at that.

Return on invested capital is equal to notepad divided by invested capital.

But it would be interesting to think about how that is made up.

What drives return on invested capital.

So let's disaggregate it.

Return on invested capital, we could say is equal to EBIT over sales or notepad over sales.

That's our margin. So it gives us profitability.

If we multiply that by sales over invested capital, that talks to us about efficiency.

So you could say that return on invested capital is the product of profitability and efficiency.

Let's take a look at an example.

Now we're gonna have a look at the International Airlines Group.

It's a multinational airline holding company.

They have some brands that you'll certainly recognize and if we take a look at their, their strategy, their long-term goals, you can see that they're targeting profitability of 12 to 15% and they're looking to grow their available seat kilometers by 6% per annum.

If we turn to the right of the diagram and have a look at the balance sheet, you can see that CapEx is averaging 2.6 billion.

Now they're gonna have to grow their invested capital to hit those profitability and growth goals.

What do they mean generating? Well, they're generat. They've been generating a fantastic return on invested capital of 16% for 2017.

What would we compare that to? Well, we'd compare that to the weighted average cost of capital of the business, and we can easily establish that.

I would suggest that you're probably looking at somewhere in the region of about eight to maybe 10% weighted average cost of capital.

Now if return on invested capital is greater than weighted average cost of capital and that is gonna provide value for shareholders, I.