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

The two terms Return on Equity (ROE) and Return on Investment (ROI), belong to the field of corporate finance and accounting. This sector controls the business activities, analysis the profit and loss ad helps to maximize the market production and the value of shareholders.

Both of these are very important for successful business planning. They look similar by the names but have a different function in practice. So here are the few differences between them.

 Return On Equity vs Return On Investment

The difference between the return on equity and return on investment is that the return on equity is mainly used to distinguish the profit level of the companies to investments, whereas the return on investment focuses on the clearing profits of the firm. Return on equity provides an idea of profits from the stalk holders. On the other hand, the return on investment makes an idea that how much the investment was successful.

Return on Equity is the profit of a firm based on the shares issued by the company to the shareholders. This is useful to measure that how much profit is earned by the company by issuing the amount of share to the stalk holders. Return on equity can be calculated.

Return on Investment is the measure to know that how much profit is gained by the company after investing or at how much rate the investment is successful. It helps to distinguish between a good and bad investment and provides a clear idea for the future development of the company.

Comparison Table Between Return on Equity and Return on Investment

Parameters of ComparisonReturn on EquityReturn on Investment
DefinitionDetermines that how effective the firm is in earning profitsCalculates the profitability over an investment.
Debt factorThe debt factor does not have any role in the calculation.The debt factor is taken into consideration.
Higher return effectHigher Return on Equity shows great improvement in management.A higher return on investment shows better profitability in investments.
FunctionProvides an analysis of good management and corporate finance decisionFocuses only on the profit
For loan on companyReturn on equity is higher than normal.Return on investment is lower than normal.

What is Return on Equity?

Return on Equity is the profit of a firm base of the shares issued by the company to the shareholders. This is useful to measure that how much profit is earned by the company by issuing the amount of share to the stalk holders. Return on equity can be calculated.

The formula to calculate return on equity is the net income or the profit of the company divided by the shareholder’s equity,

Return on equity provides a simple idea for evaluating the profits from the shareholder’s equity. On comparing the return on equity of the company with the Return on equity of the other industries, the data analysis can be done about the future development of the firm. The return on equity is mainly expressed in percentages like 12% or 15%.

The return on equity is a two-port ratio meaning it provides information about the income of the firm as well as that how much profit is earned from the share holder’s equity. If a company can maximize the profit from the share holder’s equity, the position of the firm in the upcoming years will rise at a good rate. It also provides an analysis about the investment to the profit earned from the investment or the number transformed from investment to profit. 

What is Return on Investment?

Return on Investment is the measure to know that how much profit is gained by the company after investing or at how much rate the investment is successful. It helps to distinguish between a good and bad investment and provides a clear idea for the future development of the company. This can be calculated with the help of the following formula, return on investment equals the annual income of the company divided by the total investment.

From the formula, it is clear that if the annual income of the company increases, then the total capital invested by the company the return on investment will increase. Return on investment is also calculated as a percentage. The more annual income increases mean the company is gaining more profits over the investment made.

This is more advantageous because of the easy calculation and important analysis of results. The return on investment considers the debt factor during calculation. While calculating, if the company is under the loan, the total income will be subtracted by the debt amount and then divided by the total investment.

Main Differences Between Return on Equity and Return on Investment

  1. Return on Equity determines that how effective the firm is in earning profits, whereas the Return on Investment calculates the profitability over an investment.
  2. The debt factor does not have any role in the calculation of Return on Equity, but the debt factor is taken into consideration in Return on Investment.
  3. Higher Return on Equity shows great improvement in management. On the other hand, a higher return on investment shows better profitability in investments.
  4. Return on Equity provides an analysis of good management and corporate finance decision, whereas Return on Investment focuses only on the profit.
  5. When the company is running on a loan, Return on equity is higher than normal, but the Return on investment is lower than normal.

Conclusion

Both Return on Equity and Return on Investment are the factors to determine the profits of a company. They can be calculated on a different basis but have a great role in determining the development of an industry. They have their advantages and disadvantages. 

A company should have a double income rate in comparison to their debt to continue their business at a smooth rate. Otherwise, the company is more prone to be in trouble. Both these factors are different from each other in respect of accounting and finance, so they should be given equal importance for a bright future of a firm.

References

  1. https://books.google.com/books?hl=en&lr=&id=WROeaDUXOpkC&oi=fnd&pg=PA1&dq=return+on+investment&ots=YjS6J8kcV9&sig=2iSw2fY0MdZyuG7EBQr08EuA394
  2. https://www.sciencedirect.com/science/article/pii/S1877042815054580

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