Question

1. What is the meaning of ROE or ROA? How are these measures used?

Answer 1

Return on equity (ROE): Return on equity is profitability ratio this ratio measures the financial performance of the company, it tells us the ability of the firm to generate net income from shareholders' investment. In short, we can say that how much profit each dollar of stockholders' equity generates.

The formula to calculate the return on equity is as follows:

Return on equity = Net income / Average Stockholders' equity

Where,

Net income = Total revenue - Total expenses

Stockholders' equity = Total assets - Total Liabilities

This ratio used to know how effectively the firm uses the stockholders' investment to generate income from its activities.

Return on assets (ROA): Return on assets is the profitability ratio this ratio measures the ability of the management efficiency in such a manner that how effectively firm uses its assets to generate income. it is calculated by dividing net income by total assets. This ratio is very useful for the management and investor as well because this ratio tells how efficiently the company uses its investment to generate profit.

Return on assets = net income / Total assets  

Where,

Total assets = Current assets + Lon-term assets

or

Total assets = Stockholders' equity + Total liabilities

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