Learn On Your Own Return On Assets And Equity:

Return on Assets (ROA)

Return on Assets is the ratio that measures the profitability against the investment made on average total fixed assets by a concern during an accounting period.

Simply, it measures how well a company can manage its fixed assets to generate profits during a period. This ratio helps the management and interested parties or investors to see how well a concern can convert its investment in fixed assets into profits.

In short, this ratio helps to judge how profitably a company's fixed assets are invested.

Formula:

Return on Assets= Net Income/Average Total Income

Here, average total fixed assets are normally used because the total of fixed asset can vary throughout the year. Average fixed assets for the year is calculated by adding the fixed assets at the beginning and the total fixed assets at the end of the years together and then dividing it by two.

Here, it is to be noted that average total fixed assets is the historical cost of the fixed assets on the balance sheet and is calculated without considering the accumulated depreciation.

Scrutiny:

The Return on Assets Ratio (ROA) reflects how effectively a company can convert the capital used to acquiring fixed assets into net income or profits.

Since all fixed assets are either funded by equity capital or debt capital, sometimes interest is also added back in the formula. This reflects a higher ratio which shows that the company is more effectively managing its fixed assets to produce greater amounts of net income and is favored by investors.

A positive Return on Assets Ratio usually indicates an upward profit trend as well. ROA is most useful for comparing companies in the same industry as different industries use assets differently. For example, electrical companies use heavy, expensive equipments while a biscuit company uses less heavier equipments.

Return on Equity (ROE)

Return on Equity reflects how much profit after-tax a company has earned against the total amount of shareholder equity as per the company’s balance sheet. It is the ratio that measures the rate of return that the shareholders of a company receive on their shareholdings or investments in the company. Return on equity signifies how efficiently the company is in generating returns on the investment it received from its shareholders.

Formula On Return On Equity:

The formula for return on equity is simple and easy to remember:

Return on Equity = Net Profit/Average Shareholder Equity for Period

Here, Shareholder equity is equal to total assets minus total liabilities. Shareholder equity is a product of accounting that represents the assets created by the retained earnings of the business and the paid-in capital of the owners.