What is a Return on Assets (ROA)?
ROA is a financial metric that can tell you how much profit a company generates relative to the value of its assets. A company’s assets include all of the resources that it owns or controls and produces as a business.
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Why is it important to understand ROA?
Calculating ROA can indicate how efficiently a company utilises its assets to generate income and can tell an investor how effectively a company is converting its money into income. So, understanding the ROA can be an important aspect of researching how efficiently a company is being run and whether or not it is a good investment.
How to calculate ROA?
There is a simple calculation that you can use to determine a company’s ROA. This formula is expressed as a percentage.
ROA= Net income / Total assets
What is Net income and how to find it?
Also known as Net Earnings, Net Income is calculated as sales minus cost of goods sold, general administrative expenses, operating expenses, depreciation, interest, taxes and any other expenses. Typically, you can find this metric on a company’s income statement.
What is Total Assets and how to find it?
Total asset refers to the total value of assets owned by a company. To find a company’s total assets check their balance sheet.
Example of using calculating ROA
Let’s take a fictional company as an example: Brenda’s Bakery. In their income statement and balance sheet we can see that their net income was $12 million and the value of their total assets came to $258 million.
ROA = 12 million/ 258 million = 0.0465 (4.65%)
Remember, that ROA is calculated as a percentage.
What is a good ROA?
In general, the higher the ROA the better, it speaks to the efficiency of the company at generating profits. 5% is considered good and an ROA of 20% is considered to be great because the company is earning more money on less investment.
So, in the case of Brenda’s Bakery, based on their ROA it could be a good investment. However, there could be underlying issues and it often takes applying several financial ratios to get a full picture of a company and it’s financial health. For example, ROA doesn’t take into account a company’s debt. ROA is also best used when comparing similar companies or to its own performance.
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