# What Is Return On Equity?

## Definition of Return on Equity (ROE)

• ROE is another method to measure the profitability of a company.
• The ROE divides the net income of a company with the shareholder’s equity.
• The ROE is expressed as a percentage.
• The shareholder’s equity is the company’s assets minus the company’s debt.
• Therefore the ROE is arguably the net return on assets.
• The ROE, therefore, measures how effectively a company uses its assets to generate profits.
• The ROE’s in each sector are different; therefore, its important to compare with the companies in the industry.

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## What is the Formula for ROE?

• The ROE can be calculated by dividing the Net Income by the Shareholder’s Equity.

Net Income ÷ Shareholder’s Equity

• The net income can be calculated by subtracting the Revenue by Cost of Goods Sold, Expenses, Depreciation, Amortization, Interest, and Taxes
• The Average Shareholder’s Equity can be calculated by subtracting the Total Assets by the Total Liabilities

## ROE in Practice

• Opac Corporation has a revenue of \$50,000,000, and its cost of goods sold is worth \$35,000,000.
• Furthermore, Opac also spends \$2,500,000, on salaries, \$300,000 on utilities and \$120,000 on maintenance costs.
• The depreciation is \$35,000 on the assets that Opac owns. The amortization value is \$20,000 and Opac currently pays \$5,000,000 in interest. The tax rate is 20%.
• The total assets are worth \$150,000,000, and the total liabilities are worth \$80,000,000. What is the ROE?
• 50,000,000 – 35,000,000 – 2,500,000 – 300,000 – 120,000 – 20,000 – 5,000,000 = \$7,060,000
• 7,060,000 x 0.2 = \$1,412,000
• 7,060,000 – 1,412,000 = \$5,648,000
• Therefore the Net Income is \$5,648,000
• 15,000,000 – 8,000,000 = \$7,000,000
• 5,648,000 ÷ 7,000,000 = 0.08
• 0.08 x 100 = 8%
• Therefore the ROE for Opac corporation is 8%

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