PHOTO BY AUSTIN DISTEL ON UNSPLASH

Calculating Return on Equity (ROE) is essential for evaluating a company’s financial performance. ROE measures how effectively a company uses shareholder equity to generate profits.

Understanding this metric can empower you to make informed investment decisions. Let’s break down the calculation and explore why it matters for your portfolio.

Find Net Income

Finding net income is a key step in calculating ROE. This figure represents a company’s profit after all expenses, taxes, and costs are deducted from total revenue.

This video explains how to determine net income. Here’s the formula you can use:

Net Income = Total Revenue – Total Expenses

It’s that simple! Once you’ve got net income, you’re ready to plug it into your ROE formula.

Identify Shareholder’s Equity

Shareholder’s equity represents the ownership interest in a company. It’s what’s left for shareholders after all liabilities are settled.

To find it, you can use this formula:

Shareholder’s Equity = Total Assets – Total Liabilities

Here are the key components:

• Common Stock: The value of shares issued.
• Retained Earnings: Profits that are reinvested in the business.
• Additional Paid-In Capital: Money shareholders invest above par value.

You can typically find shareholder’s equity on the balance sheet. Understanding this figure is crucial for calculating ROE.

Here’s a helpful tutorial about shareholder’s equity:

Apply The Formula

To calculate Return on Equity (ROE), you can use this simple formula:

ROE = Net Income / Shareholder’s Equity

Steps to Apply the Formula:

1. Find Net Income: This is usually found on your income statement. It represents the profit after all expenses.
2. Determine Shareholder’s Equity: Check your balance sheet for this value. It’s total assets minus total liabilities.
3. Plug and Chug: Insert these values into the formula.

Example:

A ROE of 20% means you generate 20 cents for every dollar of equity. Simple, right?