ROA and ROE are two important indicators in financial analysis to evaluate the ability to operate, production and business of a business, helping investors find potential stocks.
Table of Contents
What is ROA?
Return on Assets (ROA) is an index showing the return on assets. This index shows the ratio of profit to assets brought into production and business activities to evaluate the efficiency in using assets of the enterprise.
Formula for calculating ROA
ROA = Profit after tax / Total assets
Meaning of ROA
The ROA index shows how much profit a business has invested in assets. The higher the ROA, the more efficient the use of assets of the business is possible.
What is ROE?
Return on Equity (ROE) is an index showing the return on equity. This index shows the ratio of the profit to equity that the enterprise uses in its operations to evaluate the efficiency in the use of capital.
Formula for calculating ROE
ROE = Profit after tax / Equity
Meaning of ROE
ROE index shows 1 pile of equity that the business spent to serve the operation earn how much profit. The higher the ROE, the more efficient the use of capital is.
Note: ROA and ROE are calculated by percentage. Variables in the calculation of ROA, ROE are taken from the balance sheet and report on business results of the enterprise. Notably, stocks to be listed on HOSE and HNX must meet ROE rate of at least 5% in the most recent year.
ROA and ROE analysis
In the stock market, investors often pay attention to the shares of companies with ROA and ROE growing steadily. This is the main factor to realize whether a stock has power or not.
In the assessment of ROA and ROE, the business industry factors of the business should be considered. Each company in different industries usually has a big difference in this indicator.
Even when the ROA or ROE are equal or have a large difference, there is a need for careful analysis.
For example, enterprise A with total assets of PHP 100 million and profit after tax of PHP 10 million will have an ROA equal to that of enterprise B with total assets of PHP 5 million and profit after tax of PHP 500 million. However, it can be seen that the size of enterprise A’s assets is much higher than that of enterprise B.
In another example, enterprise C has an equity of 100 million PHP and enterprise D with 80 million PHP, total debt of C, D is 50 million and 200 million PHP, respectively. Both firms achieve the same profit margin of PHP 1 million, so that enterprise D’s ROE will be higher than that of enterprise C. But in this case, enterprise C is able to better secure finances by using less debt.
Corporate capital is divided into two parts, including loans and equity, ROE helps analysts see the possibility that the business is bringing profits from shareholder equity, so it is necessary to evaluate many other issues such as leverage ratio (debt) or the correlation between ROE and bank interest rates …
ROE = ROA * Financial leverage = ROA * Total assets / Equity = ROA * (1 + Total debt / Equity)
Note: Total Assets = Total Equity or (Total Liabilities + Equity)
In addition, the coefficient can be further deployed to see the calculated ROE based on the coefficients of net profit margin, asset efficiency, financial leverage.
ROE = (Profit after tax / Revenue) * (Revenue / Total assets) * (Total assets / Equity)
Thus, the change of ROE is determined by many factors in terms of profitability from revenue (ability to control costs, tax rates, interest rates …), ability to use assets (ability to generate revenue. input from the use of capital to finance assets in production and business) or the ratio of debt use.
Hope this article gives you an overview of two important financial indicators, ROA and ROE. If you still have questions and need a free consultation, please contact us at the link below.
How much ROA is good
ROA is usually less important than ROE, but ROA is also important.
The relationship of ROA and ROE is through the debt ratio. Debt, the less, the better if Debt / Equity <1.
According to international standards: ROE> 15%, assessed as a company with sufficient financial capacity. Then ROA> 7.5%
However, it should not be considered just a single year, but rather several years, at least 3 years. According to Ngo, if an enterprise can maintain ROA> = 10% and last at least 3 years, then that is a good business.
In addition, you should also pay attention to the trend of ROA. The trend of increasing ROA proves that the business uses assets more efficiently, of course it will be more appreciated.
ROA> 7.5% + ROA increasing + Maintaining at least 3 years => Good business.
Note: This is not true for areas related to finance such as insurance, banking, securities …
The banking industry, which maintains an ROA of> 2%, is already pretty good. Because the bank’s leverage is quite high.
See also: Return on assets – Wikipedia