A:

Return on equity (ROE) and return on capital (ROC) measure very similar concepts, but with a slight difference in the underlying formulas. Both measures are used to decipher the profitability of a company based on the money it had to work with.


Return on equity measures a company's profit as a percentage of the combined total worth of all ownership interests in the company. For example, if a company's profit equals $2 million for a period, and the total value of the shareholders' equity interests in the company equals $100 million, the return on equity would equal 2% ($2 million divided by $100 million).

Return on capital essentially is the same formula as return on equity, but with the addition of one component. Return on capital, in addition to using the value of ownership interests in a company, also includes the total value of debts owed by the company in the form of loans and bonds.

For example, if the company in the first example also owed $100 million in debts, the return on capital would drop to 1% ($2 million divided by the sum of $100 million in equity and $100 million in debts).

Both measures are well-known and trusted benchmarks used by investors and institutions to decide between competing investment options. All other things being equal, most seasoned investors would choose to invest in a company with a higher ROE and ROC.

For more on this topic, read Looking Deeper into Capital Allocation and Keep Your Eyes on the ROE.

This question was answered by Ken Clark

RELATED FAQS
  1. What level of return on equity is common for a company in the banking sector?

    Discover what the average return on equity (ROE) ratio is for companies in the banking industry, and understand the significance ... Read Answer >>
  2. Should I expect growth or income from buying stock in the consumer packaged goods ...

    Find out how annual returns are expressed in financial statements. How do fundamental investors measure annual returns? What ... Read Answer >>
  3. What is the difference between cost of equity and cost of capital?

    Read about some of the differences between a company's cost of equity and its cost of capital, two measures of its required ... Read Answer >>
  4. What is the average return on equity for a company in the financial services sector?

    Learn the importance of calculating a company's return on equity and what businesses in the financial services industry average ... Read Answer >>
  5. What is the difference between a company's equity and its shareholders' equity?

    Understand the difference and the interrelationship between shareholders' equity in a company and the company's actual total ... Read Answer >>
  6. What is the difference between ROCE and ROE?

    Discover how investors and analysts utilize the return on equity and return on capital employed ratios to gauge financial ... Read Answer >>
Related Articles
  1. Investing

    What Are The Main Differences Between Return On Equity (ROE) and Return On Assets?

    Return on equity and return on assets are important measures for evaluating how well a company manages the capital its shareholders entrust to it.
  2. Investing

    High Return On Equity Businesses

    Companies with high returns on equity usually see an increasing stock price in the future.
  3. Investing

    Analyzing UPS's Return on Equity (ROE) (UPS)

    Learn about UPS's return on equity (ROE), an important metric for investors. It is useful to compare the historical ROE and in relation to peers.
  4. Insights

    How Do Tech Companies Measure ROA And ROE?

    The return on Assets (ROA) and return on equity (ROE) are often used metrics to measure the returns generated by a company.
  5. Investing

    The Value of Profitability Ratios

    How is a company being run? Is it generating profits? The answer to these questions lies in analyzing the profitability ratios of a company.
  6. Investing

    Analyzing JetBlue's Return on Equity (JBLU)

    Learn about JetBlue's historical ROE and how it stacks up to similar-sized peers. ROE is a useful metric for investors to understand.
  7. Investing

    Analyzing BP's Return on Equity (ROE)

    Examine the return on equity (ROE) for British Petroleum, the slumping international energy company that seems to be falling behind its competitors.
  8. Small Business

    How Equity Capital Markets Work

    An equity capital market is a market existing between companies and financial institutions that raises money for the companies.
RELATED TERMS
  1. Average Return

    The simple mathematical average of a series of returns generated ...
  2. Return on Market Value of Equity - ROME

    Return on market value of equity (ROME) is a comparative measure ...
  3. Cost Of Equity

    In financial theory, the return that stockholders require for ...
  4. Total Return

    When measuring performance, the actual rate of return of an investment ...
  5. Market Value Of Equity

    The total dollar market value of all of a company's outstanding ...
  6. Target Return

    A pricing model that prices a business based on what an investor ...
Hot Definitions
  1. Expense Ratio

    A measure of what it costs an investment company to operate a mutual fund. An expense ratio is determined through an annual ...
  2. Pro Forma

    A Latin term meaning "for the sake of form". In the investing world, it describes a method of calculating financial results ...
  3. Trumpcare

    The American Health Care Act, also known as Trumpcare and Ryancare, is the Republican proposal to replace Obamacare.
  4. Free Carrier - FCA

    A trade term requiring the seller to deliver goods to a named airport, terminal, or other place where the carrier operates. ...
  5. Portable Alpha

    A strategy in which portfolio managers separate alpha from beta by investing in securities that differ from the market index ...
  6. Run Rate

    1. How the financial performance of a company would look if you were to extrapolate current results out over a certain period ...
Trading Center