## What is Reinvestment Rate?
The **Reinvestment Rate** measures the percentage of a company’s after-tax operating income (i.e. NOPAT) that is allocated to capital expenditures (Capex) and net working capital (NWC).

## How to Calculate Reinvestment Rate
The expected [growth rate](/content/knowledge/growth-rate/index.html) in [operating income](/content/knowledge/operating-income/index.html) is a byproduct of the reinvestment rate and the [return on invested capital (ROIC)](/content/knowledge/roic-return-on-invested-capital/index.html).

- **Reinvestment Rate →** The proportion of [NOPAT](/content/knowledge/nopat-net-operating-profit-after-tax/index.html) re-invested into capital expenditures ( [Capex](/content/knowledge/capital-expenditure-capex/index.html)) and net [working capital](/content/knowledge/working-capital/index.html) ( [NWC](/content/knowledge/net-working-capital-nwc/index.html)).
- **Return on Invested Capital (ROIC) →** The profitability percentage earned by a company using its equity and debt capital.

The calculation of the rate of a company’s reinvestment is a three-step process:

1. First, we calculate net Capex, which is equal to capital expenditures minus [depreciation](/content/knowledge/depreciation/index.html).
2. Next, the change in [net working capital (NWC)](/content/knowledge/net-working-capital-nwc/index.html) is added to the result from the prior step, representing the dollar amount of reinvestment.
3. Lastly, the value of the reinvestment is divided by the tax-affected [EBIT](/content/knowledge/ebit/index.html), i.e. net [operating profit](/content/knowledge/operating-profit/index.html) after taxes (NOPAT).

## Reinvestment Rate Formula
The formula for calculating the reinvestment rate is equal to the sum of net Capex and [change in NWC](/content/knowledge/change-in-net-working-capital-nwc/index.html), divided by NOPAT.

**Reinvestment Rate =**(Net Capex **\+** Change in NWC) **÷** NOPAT

Where:
- Net Capital Expenditure (Capex) = Capex – Depreciation
- NOPAT = EBIT × (1 – [Tax Rate](/content/knowledge/effective-tax-rate/index.html) %)

## What is a Good Reinvestment Rate?
The change in NWC is considered a reinvestment because the metric captures the minimum amount of [cash](/content/knowledge/cash-equivalents/index.html) necessary to sustain operations.

- Increase in Net Working Capital (NWC) ➝ Less Free Cash Flow (FCF)
- Decrease in Net Working Capital (NWC) ➝ More Free Cash Flow (FCF)

Note that the net working capital (NWC) calculation includes only operating items, and thereby excludes [cash and cash equivalents](/content/knowledge/cash-equivalents/index.html), as well as debt and any related interest-bearing [liabilities](/content/knowledge/liability/index.html).

## How Do Reinvestment Rate Impact Expected EBIT Growth?
Once calculated, the expected [growth](/content/knowledge/growth-rate/index.html) in operating income (EBIT) can be calculated by multiplying the rate of reinvestment by the [return on invested capital](/content/knowledge/roic-return-on-invested-capital/index.html) (ROIC).

**Expected EBIT Growth =** Reinvestment Rate **×** ROIC

In practice, a company’s implied rate of reinvestment can be compared to that of industry peers, as well as a company’s own historical rates.

## 1. Capex, Depreciation and Working Capital Assumptions
Suppose we’re tasked with calculating the reinvestment rate of a company using the following assumptions.

### Financials (Year 1)
- Capex = $2 million  
- Depreciation = $1.6 million  
- Net Working Capital (NWC) = $800k

### Financials (Year 2)
- Capex = $2.5 million  
- Depreciation = $2.0 million  
- Net Working Capital (NWC) = $840k

## 2. Reinvestment Rate Calculation Example
The change in NWC is equal to –$40k, which represents a cash outflow (“use” of cash), as more cash is tied up in operations.

- Change in Net Working Capital (NWC) = $800k Prior Year NWC – $840k Current Year NWC  
- Change in NWC = ($40k)

Since a negative change in NWC is a cash “outflow,” the -$40k increases the reinvestment needs of our company.

In closing, the reinvestment rate of our company is 3.6%, which we calculated by dividing the sum of the net Capex and the change in NWC by NOPAT.