This video shows how to calculate a company’s Return on Assets (ROA). It provides an example to show how ROA can be used to compare firms’ performance.
ROA is calculated by dividing a company’s Net Income by its Average Total Assets. You can compute the Average Total Assets by adding the company’s total assets from its most recent Balance Sheet date to its total assets from the previous year’s Balance Sheet date and dividing the sum by two. You use the Average Total Assets because you want to approximate the amount of assets the company had during the year (or quarter, month, etc.) during which the company generated the Net Income.
Examining ROA is important, because it measures how profitable a company is after taking into consideration its assets. To show why this matters, think about the following example: let’s say two entrepreneurs earned a profit of $1,000 in their first year of business. They might seem equally successfully because they earned the same profit, but what if one of the entrepreneurs began with just $50 in assets whereas the other entrepreneur started out with $10,000,000 in assets? They both earned the same profit, but one of the entrepreneurs did more with less. Thus, ROA measures how efficient a company was at generating profit from its assets.
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