Profitability Indicator Ratios: Return On Assets
AAA
  1. Profitability Indicator Ratios: Introduction
  2. Profitability Indicator Ratios: Profit Margin Analysis
  3. Profitability Indicator Ratios: Effective Tax Rate
  4. Profitability Indicator Ratios: Return On Assets
  5. Profitability Indicator Ratios: Return On Equity
  6. Profitability Indicator Ratios: Return On Capital Employed
Profitability Indicator Ratios: Return On Assets

Profitability Indicator Ratios: Return On Assets

By Richard Loth (Contact | Biography)

This ratio indicates how profitable a company is relative to its total assets. The return on assets (ROA) ratio illustrates how well management is employing the company's total assets to make a profit. The higher the return, the more efficient management is in utilizing its asset base. The ROA ratio is calculated by comparing net income to average total assets, and is expressed as a percentage.

Formula:


Components:


As of December 31, 2005, with amounts expressed in millions, Zimmer Holdings had net income of $732.50 (income statement), and average total assets of $5,708.70 (balance sheet). By dividing, the equation gives us an ROA of 12.8% for FY 2005.

Variations:
Some investment analysts use the operating-income figure instead of the net-income figure when calculating the ROA ratio.

Commentary:
The need for investment in current and non-current assets varies greatly among companies. Capital-intensive businesses (with a large investment in fixed assets) are going to be more asset heavy than technology or service businesses.

In the case of capital-intensive businesses, which have to carry a relatively large asset base, will calculate their ROA based on a large number in the denominator of this ratio. Conversely, non-capital-intensive businesses (with a small investment in fixed assets) will be generally favored with a relatively high ROA because of a low denominator number.

It is precisely because businesses require different-sized asset bases that investors need to think about how they use the ROA ratio. For the most part, the ROA measurement should be used historically for the company being analyzed. If peer company comparisons are made, it is imperative that the companies being reviewed are similar in product line and business type. Simply being categorized in the same industry will not automatically make a company comparable. Illustrations (as of FY 2005) of the variability of the ROA ratio can be found in such companies as General Electric, 2.3%; Proctor & Gamble, 8.8%; and Microsoft, 18.0%.

As a rule of thumb, investment professionals like to see a company's ROA come in at no less than 5%. Of course, there are exceptions to this rule. An important one would apply to banks, which strive to record an ROA of 1.5% or above.

Profitability Indicator Ratios: Return On Equity

  1. Profitability Indicator Ratios: Introduction
  2. Profitability Indicator Ratios: Profit Margin Analysis
  3. Profitability Indicator Ratios: Effective Tax Rate
  4. Profitability Indicator Ratios: Return On Assets
  5. Profitability Indicator Ratios: Return On Equity
  6. Profitability Indicator Ratios: Return On Capital Employed
Profitability Indicator Ratios: Return On Assets
RELATED TERMS
  1. Return On Policyholder Surplus

    The ratio of an insurance company’s net income to its policyholder ...
  2. Historic Pricing

    A method for calculating the value of an asset using the last ...
  3. Lean Enterprise

    A production and management philosophy that considers any part ...
  4. Return On Equity - ROE

    The amount of net income returned as a percentage of shareholders ...
  5. Earnings Per Share - EPS

    The portion of a company's profit allocated to each outstanding ...
  6. Return On Investment - ROI

    A performance measure used to evaluate the efficiency of an investment ...
  1. Which leverage ratios are most useful for analyzing manufacturing companies?

    See which leverage ratios investors and creditors are likely to use when analyzing the debt burdens for manufacturing companies.
  2. What is the minimum amount of money that I can invest in a mutual fund?

    Learn about investing in mutual funds even with a smaller initial investment; there are many funds available to investors ...
  3. What's more important, cash flow or profits?

    Learn about the different effects that cash flow and profit have on a business so you can decide which aspect to focus on.
  4. How do I sign up for a TreasuryDirect account?

    Invest in Treasury securities by dealing directly with the U.S. Department of the Treasury online, conveniently managing ...
Related Tutorials
  1. Industry Handbook
    Investing Basics

    Industry Handbook

  2. Investing For Safety and Income Tutorial
    Bonds & Fixed Income

    Investing For Safety and Income Tutorial

  3. Discounted Cash Flow Analysis
    Fundamental Analysis

    Discounted Cash Flow Analysis

  4. American Depositary Receipt Basics
    Economics

    American Depositary Receipt Basics

  5. Ratio Analysis Tutorial
    Fundamental Analysis

    Ratio Analysis Tutorial

Trading Center