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 contribute to one’s business.
Return can be defined as the money gained or lost on an investment over a specific time. It is also known as financial Return. It also signifies any changing dollar values throughout the investment.
We can say that a Return is a change in the price or value of a company’s asset, investment, or project over a fixed time interval and can be represented in terms of a change in monetary value.
It can be positive or negative, representing profit or loss.
Key Takeaways
- Return on equity (ROE) measures a company’s profitability of its shareholder’s investments, while Return on Assets (ROA) gauges a firm’s profitability based on its total assets.
- ROE is a more focused metric, emphasizing the returns generated for shareholders, whereas ROA provides a broader perspective of a company’s financial efficiency.
- A high ROE indicates that a company effectively utilizes shareholder investments, whereas a high ROA signifies that a firm is efficiently using its assets to generate profits.
Return on Equity vs Return on Assets
The difference between the Return on Equity and the Return on Assets is that Return on Equity is the value we get by dividing the net income by Equity. In contrast, the Return on Asset is the value we get after dividing the net income by the average Asset. Return on investments measures 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 available economic resources or the company’s assets on their balance sheet.
Return on Equity shows the financial performance and is obtained by dividing the company’s net income by the average shareholder’s Equity. It measures the profit generated by the company or business concerning the amount of equity. The higher the value of ROE, the higher 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 the efficiency of the company’s management in handling the balance sheet and the profit generated by the company on its Assets.
Comparison Table
| Parameters of Comparison | Return on Equity | Return on Assets |
|---|---|---|
| Meaning | Shows the financial profit concerning 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 numerator | Net income is the numerator. | Interest expenses are also considered along with net income because Equity holders and debt holders fund the company’s total asset. |
| Difference in denominator | Average shareholder’s Equity is considered as the Equity one holds can vary at the initial and final stages of the financial year. | Average total Assets are preferred and considered as the Assets may be lost or gained over time. |
| Investors | Equity investors only | Includes Equity shareholders, preferred shareholders, and the total debt investment |
What is Return on Equity?
Return on Equity is considered the measure of the performance of a company’s financial unit. It can be calculated by dividing the company’s net income 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 company’s balance sheet.
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 shareholder’s equity
Net income can be defined as the total revenue generated after accounting for all of the company’s expenses, one-time expenses, and taxes for a given amount of time.
Average shareholder’s Equity is a more accurate measurement and is calculated by adding the beginning shareholder’s Equity and ending shareholder’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 company’s value or 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
A company’s net income is mentioned on the income statement and can be found at the bottom part of it.
Net income can be defined as the value obtained after subtracting all of the expenses from the company’s income. It also includes additional income in investment income or Sale of Assets cases.
Average total assets are used for calculation as the company’s total assets 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
- Return on Equity is independent of the company’s assets, whereas the Return on Assets depends on the company’s assets.
- Return on Equity is talking about the company’s profitability concerning the Equity present in business in the current scenario. In contrast, the Return on Assets is the profit generated by the company concerning the Assets owned by the business at that time.
- 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 identify parameters on which ROE is dependent.
- The difference between ROE and ROA is financial leverage. The Return on Equity does not involve any debt, whereas the Return on Assets includes the debt part mentioned in the balance sheet.
- Return on Equity focuses on the capital of the company and the financial management of the company. Return on Assets focuses on the company’s operating management and helps determine its efficiency.
- ROE calculation includes only the Equity shareholders, while the ROA calculation includes preferred shareholders, Equity shareholders, and the total debt investment of the company.
- http://iaeng.org/publication/WCE2008/WCE2008_pp828-833.pdf
- https://www.scirp.org/journal/paperinformation.aspx?paperid=73338
- https://papers.ssrn.com/sol3/papers.cfm?abstract_id=2500836
Last Updated : 11 June, 2023
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Chara Yadav holds MBA in Finance. Her goal is to simplify finance-related topics. She has worked in finance for about 25 years. She has held multiple finance and banking classes for business schools and communities. Read more at her bio page.
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