To learn how to calculate return on assets, or ROA, you will need the company’s income statement and balance sheet. It is a simple formula
dividing net income by average total assets. ROA is a measurement that identifies how much the company earned for each dollar they invested in assets. It is a broad measure of company profits and successful management. Large corporations may calculate ROA for each department within a company to help evaluate the performance of department managers. Also, the ROA can be compared to the standard ROA for that industry to see how a company measures up against its competitors. Some industries require more assets to operate in the industry. For example, the auto manufacturers and utility companies require a lot of expensive assets to operate and may have a lower ROA industry average than a publishing or software company. Publishing and software industries have a relatively high ROA because it’s possible to turn a generous profit in those industries with little, or no investment, in assets. There are two standard formulas for calculating ROA.
(Net Income / Average Total Assets) = Return on Assets
This method is straight forward and simple and the net income for a given period can be taken from the company’s income statement. The average total assets can be found on the balance sheet by averaging the period’s total assets. This is done by adding this period’s total assets to last period’s total assets and dividing by two.
(Net Profit Margin x Asset Turnover) = Return on Assets
This method of determining return on assets is a bit more complex than the previous formula. First you must calculate the net profit margin, which is the net income for the period divided by the total revenue for the period. Both of these numbers are reported on the income statement. The next calculation is to determine the asset turnover. Asset turnover is determined by dividing the total revenue from the income statement by the average total assets. As mentioned in the previous formula, average total assets are calculated by adding this period’s total assets to last period’s total assets and dividing by two. Total assets are available on the company balance sheet.
For a company’s ROA calculation to be accurate, it is critical that assets be reflected accurately on company financial statements. Any under or over reported asset values can skew the return on investment calculation. Aside from rounding differences, ROA should be the same regardless of which formula is used. ROA helps a company identify the return they have made, for a given period, for each dollar they invested in assets. It can help the company determine their overall performance compared to industry standards, or ROA can be used to measure performance of each division within a company. Management strategies can be revised if the ROA isn’t performing as desired. Learning how to calculate return on assets is a great business analysis tool that can help the business owner be more successful via a few simple calculations.
Resource - Small Business Calculator - Bankrate retrieved at https://www.bankrate.com/calculators/business/return-ratio.aspx
Income statement photo courtesy of flickr/Casey Serin