A company's 澳洲幸运5官方开奖结果体彩网:financial performance is a broad indicator of how well a company uses its assets, makes money, and conducts its business. Put simply, a company's financial performance can tell you how healthy it is and whether it is financially sound. There are several key financial metrics that can help you determine whether a business is performing well or isn't living up to industry standards. One of the figures that many analysts and investors use is the 澳洲幸运5官方开奖结果体彩网:return on equity (ROE). In this article, we look at what ROE is, how to calculate it, and how it's used when analyzing companies.

What Is Return on Equity (ROE)?

Return on equity is a ratio that provides 澳洲幸运5官方开奖结果体彩网:investors with insight into how efficiently a company (or more specifically, its management team) is handling the money that 澳洲幸运5官方开奖结果体彩网:shareholders have contributed to it. In other words, ROE measures the profitability of a corporation in relation to stockholders’ equity. The higher the ROE, the more efficient a company's management is at generating income and growth from its 澳洲幸运5官方开奖结果体彩网:equity financing. 

ROE is often used to compare a company to its competitors and the overall market. The formula is especially beneficial when comparing firms of the same industry since it tends to give accurate indications of which companies are operating with greater financial efficiency and for the evaluation of nearly any company with primarily tangible rather than 澳洲幸运5官方开奖结果体彩网:intangible assets.

Formulaꦫ and Calculation of Return on Equity (ROE)

While the calculation can be 澳洲幸运5官方开奖结果体彩网:accomplished using Excel, the basic formula for calculating ROE is:

$ROE= \frac{\text{Net Income}}{\text{Shareholder Equity}}$ROE=Shareholder EquityNet Income​

Where:

• 澳洲幸运5官方开奖结果体彩网:Net income is the bottom-line profit—before 澳洲幸运5官方开奖结果体彩网:common-stock dividends are paid, which is reported on a firm’s 澳洲幸运5官方开奖结果体彩网:income statement.
• 澳洲幸运5官方开奖结果体彩网:Shareholder equity is assets minus 澳洲幸运5官方开奖结果体彩网:liabilities on a firm’s 澳洲幸运5官方开奖结果体彩网:balance sheet and is the accounting value that's left for shareholders should a company settle its liabilities with its reported assets.

Note that ROE is not to be confused with the 澳洲幸运5官方开奖结果体彩网:return on total assets (ROTA). While it is also a profitability metric, ROTA is calculated by taking a company's 澳洲幸运5官方开奖结果体彩网:earnings before int𝓀erest and taxes (EBIT) and dividing it by the company's total assets.

ROE can also be calculated at different periods to compare its change in value over time. By comparing the change in ROE's growth rate from year to year or quarter to quarter, for example, 澳洲幸运5官方开奖结果体彩网:investors can track&nbs൩p;changes in management's performance.

Analyzing Return on Equity (ROE)

The ROE of the entire stock market as measured by the 澳洲幸运5官方开奖结果体彩网:S&P 500 was 16.38% in the third quarter of 2023, as reported by CSI Market. Th𒈔e fir๊st, critical component of deciding how to invest involves comparing certain industrial sectors to the overall market.

For example, a look at ROE figures categorized by industry during that same period might show the stocks of the railroad sector performing very well compared to the market as a whole, with an ROE value of 21.63%, while the utilities and life insurance industries had ROEs of 13.52% and 5.98%, respectively. This could indicate that railroad companies have been a steady growth industry and have provided excellent returns to inves🍌tors.

The next step involves looking at individual companies to compare their ROEs with the market as a whole and with companies within their industry. For instance, Procter & Gamble (PG) reported a net income of $3.42 billion and total shareholders' equity of $45.42 billion during Q3-2023. Thus, PG's ROE as of that period was:

$3.42 billion ÷ $45.42 billion = 7.53%

P&G's ROE was below the average ROE for the 澳洲幸运5官方开奖结果体彩网:consumer goods sector of 24.64% at that time. In other words, for every dollar of shareholders' equity, P&a𒈔mp;G generated 7.53 cents in profit.

Comparing Return on Equity (ROE)

Measuring a company's ROE performance against that of its sector is only one way to make a comparison.

For example, in the second quarter of 2023, Bank of America Corporation (BAC) had an ROE of 11.2%. According to the 澳洲🦄幸运5官方开奖结果体彩网:Federal Deposit♓ Insurance Corporation (FDIC), the average ROE for the banking industry during the same period was 13.57%. In other words, Bank of Americaꦕ uಌnderperformed the industry.

In addition, the FDIC calculations deal with all banks, including commercial, consumer, and community banks. The ROE for commercial banks was 10.96% in the second quarter of 2023. Si𒉰nce Bank of America is, in part, a commercial lender, its ROE was above that of other commercial banks.

In short, it's not only important to compare the ROE of a company to the industry average but also to similar companies within that industry.

In evaluating companies, some investors use other measurements too, such as 澳洲幸运5官方开奖结果体彩网:return on capital employed (ROCE) and return on operating capital (ROOC). Investors often use ROCE instead of the standard ROE when judging the longevity of a company. Generally speaking, both are more useful indicators for 澳洲幸运5官方开奖结果体彩网:capital-intensive businesses, such as utilities or manufacturing.

When Shareholder Equity Is Negative

There can be circumstances when a company's equity is negative. This usually o🐻ccurs when a company has incurred losses for a period of time and has had to borrow money to ꦛcontinue staying in business. In this case, liabilities will be greater than assets.

If one were to calculate return on equity in this scenario 🅷when profits are positive, they would arrive at a negative ROE. Th♎is number, though, would not be telling the entire story. It could indicate that a company is actually not making any profits, running at a loss because if a company was operating at a loss and had positive shareholder equity, the ROE would also be negative.

In a situation when the ROE is negative because of negative shareholder equity, th✤e higher the negativ🌃e ROE, the better. This is so because it would mean profits are that much higher, indicating possible long-term financial viability for the company.

The Bottom Line

Return on equity is an important financial metric that investors can use to determine how efficient management is at utilizing equity financing provided by shareholders. It compares the net income to the equity of the firm. The higher the number, the better, but it is always im🐎portant to measure apples to apples, meaning companies that operate in the same industry, as each industry has different characteristics that will alte🌠r their profits and use of financing.

As with all investment analysis, ROE is just one metric highlighting only a portion of a firm's financials. Another way to look at company profitability is by using the 澳洲幸运5官方开奖结果体彩网:return on average equity (ROAE). Still, these calculations will only give a portion of the total picture. It is critical to utilize a variety of financial metrics to get a full understanding of a company's financial health before investin🎐g.