|
Skip to a different definition: |
|
A
- B - C -
D - E
- F - G -
H - I
- J - K -
L - M
- N - O -
P - Q
- R - S -
T - U
- V - W -
X - Y
- Z |
|
|
Return on Equity (ROE) |
What It Is:
Return on equity (ROE) is a measure of profitability that
calculates how many dollars of profit a company generates
with each dollar of shareholders' equity. The formula for ROE
is:
ROE = Net Income/Shareholders' Equity
ROE is sometimes called return on net worth.
How It Works/Example:
Let's assume Company XYZ generated $10,000,000 in net income
last year. If Company XYZ's shareholders' equity equaled
$20,000,000 last year, then using the ROE formula, we can
calculate Company XYZ's ROE as:
ROE = $10,000,000/$20,000,000 = 50%
This means that Company XYZ generated $0.50 of profit for every $1 of
shareholders' equity last year, giving the stock an ROE of 50%.
Why It Matters:
ROE is more than a measure of profit; it's a measure of
efficiency. A rising ROE suggests that a company is increasing
its ability to generate profit without needing as much capital.
It also indicates how well a company's management is deploying
the shareholders' capital.
It is important to note that if the value of the shareholders'
equity goes down, ROE goes up. Thus, write-downs and share
buybacks can artificially boost ROE. Likewise, a high level of
debt can artificially boost ROE; after all, the more debt a
company has, the less shareholders' equity it has (as a
percentage of total assets), and the
higher its ROE is.
Some industries tend to have higher returns on equity than others.
As a result, comparisons of returns on equity are generally most meaningful among
companies within the same industry, and the definition of a
"high" or "low" ratio should be made within this context.
|
|
