Understanding Return on Equity and Return on Assets
The amount of money the management team of a company is able to generate with the existing resources is what you should look at when you decide on the investment in a particular company. This is commonly referred to as management efficiency. Two ratios that are usually used in order to measure it are return on equity (ROE) and return on assets (ROA).
Since a company has limited resources and it should put them in the most efficient use, ROE and ROA aim to measure the earnings that the company manages to generate through such efficient use of resources.
In order to calculate return on equity you should divide the company's income by its common equity or book value. Since the company employs a specific amount of equity capital this ratio gives you return that it generates from this capital. ROE is expressed in percentage.
Return on assets is calculated by dividing income by the total assets the company has. This ratio presents a measurement of the money the company generates from the employment of all of its assets it has on the books, such as inventories, production facilities and etc.
No matter that ROE and ROA give a general view on the management efficiency, you should have in mind that they are not of a perfect accuracy. This is so, since earnings can be used in a manipulative way by the company's management in order to achieve results it targets. Many high-tech companies have intangible assets that are not included in its books. This means that the book values of such companies can be significantly lower than their true values because of the failure to include intangible assets.
Nevertheless, ROE and ROA should not be overlooked when you start to compare different target stocks. The same accounting rules and regulations companies should follow leads to the same representation of these ratios. Aside from the many benefits they have one more can be added, namely the general profitability picture it gives regarding a particular industry.
To be a successful investor you need two main things - the knowledge and the right trading platform. For a trading platform we can recommend try you Zecco and TradeKing
.
Zecco offers free stock trades, no account minimum, real time quotes, trading community, and is also insured and protected against loss by SIPC.
Opening a Zecco account to benefit from $0 Stock/ETF trading is a smart idea. Free stock trades allow you to preserve more of your wealth and save money, which you can invest instead of paying brokerage commissions.
TradeKing has been rated #1 Discount Broker by SmartMoney’s (the Wall Street Journal Magazine) annual US broker survey. It was also awarded the highest 4-star ranking in Barron's survey of Best Browser-Based Online Brokers. TradeKing platform features real-time portfolio information, advanced order entry, stock, option and mutual fund screeners, customized charting and alerts, volatility charts, a pricing probability calculator, free research and integrated news, and interactive educational information. Open a TradeKing account here
| Rate this article : Low | High |
- Stock Investing vs. Saving
- Mutual Funds vs Individual Stocks
- Classes of Assets - Asset Class Definition
- Investment Goals Planning
- Stock Investing Basics
- Bond Definition and Concepts
- Zero Coupon Bonds Basics
- Convertible Bonds Basics
- US Treasury I Bonds Basics
- Discount Stock Brokers vs Full Service Brokers
- Financial Advisor Job Description
- Certified Financial Planner Designations
- Stock Broker Categories
- Types of Brokerage Accounts
- Stock Buyback Reasons
- Stock Basics
- Stock Dividends Basics
- Stock Market Cycles
- Federal Reserve Board (Fed) Functions and Importance
- Stock Market Sectors Classification
- Stock Split Basics
- Stock Market Indexes and Fair Value Indications
- Stock Share Types
- Bid and Ask Prices
- Stock Trading Basics and Order Types
- Market Makers Role and Responsibilities
- NYSE and Market Specialists
- Company Market Capitalization
- Stock Order Types
- Setting Stock Prices
- Newspaper and Online Stock Quotes
- Stop Loss Order Fundamentals
- Trailing Stop Order Basics
- Book Value Explanation
- Dividend Yield Explanation
- Stock Price Influences
- Advance Decline Ratio Basics
- Value Investing Basics
- Rising Interest Rates and their Effects
- Foreign Stocks Basics
- Asset Allocation Basics
- Stock Market Movements
- Earnings Season Basics
- CPI Basics
- Inverted Yield Curve Implications
- IPO Basics and Strategies
- Option Basics and Types
- Consumer Price Index Basics
- Stock Market Investing Basics
- Why Do Companies Go Public
- Introduction to Stocks
- Stock Price Volatility
- Large Cap Stock Characteristics
- Small Cap Stocks Characteristics
- Foreign Stock Characteristics
- Technology Stock Characteristics
- Fundamental Analysis Technique Basics
- Technical Analysis Basics
- Importance of Current Assets and Current Liabilities
- Price/Book Value Advantages and Disadvantages
- Understanding Return on Equity and Return on Assets
- Understanding Inventory Turnover Ratio
- Price to Earnings Growth Ratio (PEG) Explanation
- Price to Earnings (P/E) Ratio Basics
- Price to Sales Ratio (PSR) Explanation