Difference Between Return on Equity and Return on Assets (With Table)

Finance has a lot of terms which consist of investment, Returns, stock market, dividend, deposit, share, Equity shares, Assets, etc., which are valuable attributes and contributing to one’s business. Return can be defined as the money gained or lost on an investment over a specific time period. It is also known as financial Return. It also signifies any about the changing dollar values over the time period of the investment.

We can say that a Return is a change in the price or value of an asset, investment, or a project of a company over a fixed time interval and can be represented in terms of a change in monetary value. It can either be positive or negative, representing profit or loss, respectively. 

Return on Equity vs Return on Assets

The difference between the Return on Equity and Return on Assets is that Return on Equity is the value we get by dividing the net income by Equity, whereas the Return on Asset is the value we get after dividing the net income by the average Asset. Return on investments is a measure of how effectively an organization is taking advantage of its base of Equity or capital. Return on Asset shows the efficiency of a company’s management in generating earnings from their economic resources available or the Assets of the company on their balance sheet.

Return on Equity shows the financial performance and is obtained by dividing the net income of the company by the average shareholder’s Equity. It measures the profit that is generated by the company or business concerning the amount of Equity present in the business. The higher the value of ROE, the higher is the amount of profit concerning investments made in the form of Equity.

Return on Assets is the profitability ratio that tells us about the profit a company can generate from its Assets. It measures the efficiency of the company’s management system. Its value is shown as a percentage. The higher the percentage, the higher is the efficiency of the company’s management in terms of handling the balance sheet and the profit generated by the company on their Assets.

Comparison Table Between Return on Equity And Return on Assets

Parameters of ComparisonReturn on EquityReturn on Assets
MeaningShows the financial profit with respect to Equity involved in the business. Calculates profit generated from the Assets that a company holds.
Formula Net income divided by average shareholder Equity.Net income plus interest expenses; sum then divided by average total Assets
Difference in numeratorNet income is the numerator.Interest expenses are also considered along with net income because the total Asset of the company is funded by Equity holders and debt holders.  
Difference in denominatorAverage shareholder’s Equity is taken into consideration as the Equity one holds can vary at the initial and final stages of the financial year.  Average total Assets are preferred and are taken into consideration as the Assets may be lost or gained over time.  
InvestorsEquity investors onlyIncludes Equity shareholders, preferred shareholders, and the total debt investment

 What is Return on Equity?

Return on Equity is considered as the measure of the performance of a company’s financial unit and can be calculated by dividing the net income of the company by the average shareholder’s Equity. Equity is the shareholder’s stake or partial ownership of a person in the company, which is identified and mentioned on the balance sheet of the company. 

The Equity of a company can be verified by obtaining the difference between the total assets of the company and the total liabilities of the company. Equity is sometimes also referred to as stockholders Equity in the case of corporations or owners—Equity in the case of sole proprietorships.

The formula for Return on Equity:

ROE= Net income/ Average shareholders equity 

Net income can be defined as the total revenue generated after accounting for all of the expenses, one-time expenses, and taxes of the company for a given amount of time. Average shareholder’s Equity is a more accurate measurement and is calculated by adding the beginning share holder’s Equity and ending share holder’s Equity and dividing them by two.

What is Return on Assets?

Return on Assets can be defined as the profit made by the company on its Assets. An Asset can be defined as a source having an economic value possessed by an individual, corporation, or country which provides them financial benefit in the long term. Assets aim to increase the value of the company or to bring benefits to other operations of the company. Assets are always mentioned on the balance sheets.

The formula for Return on Assets:

 ROA=(Net income + Interest expenses)/ Average total assets 

The net income of a company is mentioned on the income statement and can be found on the bottom part of it. Net income can be defined as the value obtained after subtracting all of the expenses from the income of the company. It also includes additional income in cases of investment income or Sale of Assets. Average total assets are used for calculation as the Total Assets of the company can vary at two different time points if in case of sale or purchase of an Asset is done.

Main Differences Between Return on Equity and Return on Assets

  1. Return on Equity is the factor that is independent of the assets of the company, whereas the Return on Assets depends on the Assets of the company.
  2. Return on Equity is telling about the profitability of the company concerning the Equity present in business in the current scenario, whereas the Return on Assets is the profit generated by the company concerning the Assets owned by the business at that time.
  3. Return on Equity can be calculated by DuPont Analysis, whereas the Return on Assets cannot. DuPont analysis uses a combination of three ratios, which helps in the identification of parameters on which ROE is dependent.
  4. The difference between ROE and ROA is financial leverage. The Return on Equity does not involve any kind of debt, whereas the Return on Assets includes the debt part mentioned in the balance sheet.
  5. Return on Equity focuses on the capital of the company and the financial management of the company. Return on Assets focuses on the operating management of the company and helps to determine its efficiency.
  6. ROE calculation includes only the Equity shareholders, while the ROA calculation includes preferred shareholders, Equity shareholders, and the total debt investment of the company.

Conclusion

Return on Equity and Return on Assets are critical parameters that help in analyzing the business. These two are also known as profitability ratios as they are measures of profit generated by the company or organization. Both are to be considered while evaluating the financial management and performance of the company. They tell us about the effectiveness and the management of the company.

Return on Equity gives us the profit gained by stakeholder’s investments, and Return on Assets tells us about the profit gained by the Assets of the company. They both tell us the profit of a company earned by two different investments over a given time.

References

  1. http://iaeng.org/publication/WCE2008/WCE2008_pp828-833.pdf
  2. https://www.scirp.org/journal/paperinformation.aspx?paperid=73338
  3. https://papers.ssrn.com/sol3/papers.cfm?abstract_id=2500836
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