Operating Assets and ROI

The distorting effects of acquisitions and dispositions on net operating cash flow [An article from: Accounting Forum]Both net operating assets and gross operating assets can be used. If net operating assets are used, plant and equipment will be included after subtracting depreciation. This means that net operating assets would decline each year because of depreciation. This would make the denominator of the calculation smaller and hence would make the ROI value higher—–just by doing nothing. Reinvestment in new plant or equipment would raise the value of the operating assets and this increase in the denominator would reduce the ROI. Hence, there is a built in disincentive NOT to invest in new plant and equipment particularly when net operating assets are used —–even though this would be in the best interests of the company.

This problem is much less of a problem if gross operating assets are used because the value does not decline over time. That is, depreciation is not deducted from operating assets. However, in practice, net operating assets are much more commonly used in the calculation of ROI.