What Is Return on Net Assets – RONA?
The RONA ratio shows how well a company and its management are deploying assets in economically valuable ways, and a high ratio result indicates that management is squeezing more earnings out of each dollar invested in assets. RONA is also used to assess how well a company is performing compared to others in its industry.
The Formula for Return on Net Assets Is
NWC=Current Assets−Current Liabilitieswhere:NWC = Net working capital
How to Calculate RONA
The three components of RONA are net income, fixed assets, and net working capital. Net income is found in the income statement and is calculated as revenue minus expenses associated with making or selling the company's products, operating expenses such as management salaries and utilities, interest expenses associated with debt, and all other expenses.
Fixed assets are tangible property used in production, such as real estate and machinery, and do not include goodwill or other intangible assets carried on the balance sheet. Net working capital is calculated by subtracting the company's current liabilities from its current assets. It is important to note that long-term liabilities are not part of working capital and are not subtracted in the denominator when calculating working capital for the return on net assets ratio.
At times, analysts make a few adjustments to the ratio formula inputs to smooth or normalize the results, especially when comparing to other companies. For example, consider that the fixed assets balance could be affected by certain types of accelerated depreciation, where up to 40% of the value of an asset could be eliminated in its first full year of deployment.
Additionally, any significant events that resulted in either a large loss or unusual income should be adjusted out of net income, especially if these are one-time events. Intangible assets such as goodwill are another item that analysts sometimes remove from the calculation, since it is often simply derived from an acquisition, rather than being an asset purchased for use in producing goods, such as a new piece of equipment.
What Does RONA Tell You?
The return on net assets (RONA) ratio compares a firm's net income with its assets and helps investors to determine how well the company is generating profit from its assets. The higher a firm's earnings relative to its assets, the more effectively the company is deploying those assets. RONA is an especially important metric for capital intensive companies, which have fixed assets as their major asset component.
In the capital-intensive manufacturing sector, RONA can also be calculated as:
Return On Net Assets=Net AssetsPlant Revenue − Costs
Interpreting Return on Net Assets
The higher the return on net assets, the better the profit performance of the company. A higher RONA means the company is using its assets and working capital efficiently and effectively, although no single calculation tells the whole story of a company's performance. Return on net assets is just one of many ratios used to evaluate a company's financial health.
If the purpose of performing the calculation is to generate a longer-term perspective of the company's ability to create value, extraordinary expenses may be added back into the net income figure. For example, if a company had a net income of $10 million but incurred an extraordinary expense of $1 million, the net income figure could be adjusted upward to $11 million. This adjustment provides an indication of the return on net assets the company could expect in the following year if it does not have to incur any further extraordinary expenses.
- RONA compares a firm's net profits to its net assets to show how well it utilizes those assets to generate earnings.
- A high ratio result demonstrates that management is maximizing the use of the company's assets.
- Net income and fixed assets can be adjusted for unusual or non-recurring items to gain a normalized ratio result.
Example of How to Use RONA
Assume a company has revenue of $1 billion and total expenses including taxes of $800 million, giving it a net income of $200 million. The company has current assets of $400 million and current liabilities of $200 million, giving it net working capital of $200 million.
Further, the company's fixed assets amount to $800 million. Adding fixed assets to net working capital yields $1 billion in the denominator when calculating RONA. Dividing the net income of $200 million by $1 billion yields a return on net assets of 20% for the company.