Wednesday 2 January 2019

Return on equity (ROE)

Return on equity

A Return on Equity Ratio which is usually abbreviated with ROE is the ratio of profitability that measures the company's ability to generate profits from the investment holder shares in the company. In other words, it shows how much ROE profits that can be generated by companies from every one dollar invested by its shareholders. ROE is usually representing by a percentage (%).

So, with 100% ratio of ROE means that every 1 the rupiah from the equity shareholders can produce 1 the rupiah from net profit. Return on Equity ROE or this is important measurement for potential investors because it can know how efficient a company will use the money they invested to generate net income. ROE can also serve as an indicator to assess the effectiveness of management in using the equity financing to fund operations and grow its business.

How to calculate ROE (Return on Equity or return on Equity Ratio)

The following is the formula and how to calculate Return on Equity in often refer to as the ratio of return on Equity and its calculation example case ROE.

The formula of the ROE (Return on Equity)

The ratio of Return on Equity (ROE) is calculate by dividing net profit by equity shareholders. The following is the formula of ROE:

ROE = net profit after tax/Shareholder's equity

In General, the Return on Equity or ROE is calculated for ordinary shareholders (common shareholders). In this case, preferred dividends are not included in the calculation because the kind of dividends is not available to ordinary shareholders. Preferred dividends are usually excluded from the calculation of net profit (Net Income).

Calculation example ROE (Return on Equity)

Based on the published financial report per 31 December 2017, XYZ COMPANY in the construction sector had a net profit after tax of $ 500 million, the total equity shareholders are as much as $ 800 million. What is the ratio of return on equity or Return of Equity (ROE) of XYZ COMPANY?

The ROE = net profit after tax/shareholders ' Equity
ROE = $ 500 million/USD 800 million
ROE = 62.5%

So ROE XYZ COMPANY in 2016 is 62.5%.

Analysis and assessment of the ROE (Return on Equity)

Return on equity ROE or measure how efficiently a company is using money from shareholders. To generate profit and grow its business. Unlike other return on investment ratio. ROE is the ratio of profitability from investors' point of view, not from the point of view of the company. In other words, this ratio to calculate how much money can be generate by the company in question base on the invest money of shareholders not the company's investment in the form of assets or something more.

Of course, any investor or shareholder want the return on equity ratio is high. Because the return on equity (ROE) is high indicating that companies using fund investors effectively. In General, the higher the ratio of Return on Equity (ROE) is, the better. But keep in mind that this ROE ratio will vary between one type of industry with other industries. So should this ROE doesn't compare with different industries because each type of industry has a different income and investment.

If it is not to compare with other companies, ROE is actually can be use. To compare between one period with other periods. Most investors will calculate and compare it at the beginning of the period. To the end of the period to see the necessary changes in the return. Its equity by comparison this per period, investors can keep track. Even and know the developments and the company's ability to maintain a positive earnings trend.

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