ROA (Return on Assets) is a profitability index that aims to measure the company’s profits based on the assets. He is able not only to give a concrete view on the assets, but also on the return power that they have.
Does your company have the capacity to evaluate its own investments? Or is it able to measure the efficiency of the return on investments? Know that understanding what ROA means can help you measure your company’s earnings.
When it comes to assets, it is considered from equipment to investments or real estate. Bearing in mind the meaning of ROA, it is easier to measure the value generation of each of these assets.
Want to know how to assertively measure your income? Go ahead in this article and we’ll help you understand and put ROA into practice.
What is ROA?
ROA is a profitability index and means Return on Assets, in London, Return on Assets. It is able to measure both how efficient its assets have been and how to assess profit and loss.
Through ROA you analyze the company’s ability to convert its assets into real (net) profit. It is normal that, based on the index and its results, companies make a comparison with competitors.
This is to find out if your assets are making as much profit as other companies in the same industry, and even to make the necessary adjustments or corrections over time.
Bearing in mind, of course, that this type of comparison can only be done based on publicly traded organizations, which disclose their information on the web.
Assessing the company’s profitability index is important in order to offer guidance to managers in the management of the business. Therefore, understanding what the ROA is, it is possible to evaluate what really generates money and the return on the company’s assets.
Below are some of the main benefits of ROA:
- Assess the increase or decrease in profits;
- Analyze the effectiveness of assets;
- Measure profit compared to competitors;
- Use ROA to assertively manage and allocate working capital;
- Compare business objectives in relation to asset performance.
With these benefits in hand, the manager can bet on the assets that really offer positive results to the company.
Difference between ROI and ROA
Both ROI and ROA are very important indicators for companies and can be used together in these processes to evaluate the company’s profitability.
Now that we know what ROA means, let’s make a comparison against ROI to understand the differences between these ratios.
ROI is the acronym for Return on Investment and aims to measure and evaluate the earnings of companies based on their investments.
It shows concretely how much the company gains or loses in different channels with its investments. It also serves as a basis for the company to identify and assess what is or is not worth investing in.
We talked about the importance of return on investment in the article: “What is ROI? Learn how to calculate the indicator ”.
The ROI is calculated using the following formula.
- ROI = (Revenue – Investment cost) / Investment cost x 100
ROA, as we saw above, is linked to assets and considers them as the basis for measuring profits. The higher the index, the better the company’s profitability in this sense and the more attractive it becomes in the market for possible shareholders.
So, the main difference is that the ROI measures the results of the investments and the ROA the profitability based on the assets.
How to calculate ROA?
Before presenting the necessary formula to calculate the ROA, we need to detail the meaning of the Operating Profit and Average Total Assets that are part of this account:
Operating Profit is present in the Statement of Income for the Year (DRE) and measures the company’s operating profit.
From this result, operating, administrative and commercial expenses are subtracted. It differs from gross profit, since in the gross only variable expenses are discounted.
The average total asset is present in the company’s balance sheet.
It is important to note that the total assets are the results of the sum of all the assets that the company owns. In other words, from money, real estate, goods in general, investments and even amounts referring to the debts that the company has to receive.
To find the average total assets, it is necessary to divide the company’s net revenue by the average amount of total assets.
Formula for calculating ROA
Knowing what ROA, operating profit and average total assets are, we can already use the formula below to measure the profit that your assets have given. To do this, just make the necessary substitutions following the formula below:
- Return on Assets (ROA) = Operating Profit / Average Total Assets.
Interpreting the ROA
With the result of the ROA in hand, managers can more accurately assess the effectiveness of the business, especially when it comes to measuring the ability to convert assets into net profit.
If the indicator in the result of the operation to calculate the ROA is large, it is a sign that the assets are being used well. If this number is low, compared to companies in the same sector, it is a sign that the use of these assets is ineffective.
It is common for many companies to find a low ROA in their analysis of operating profit and average total assets. A question to ask in this case is: what are the reasons for the return on my asset to be unsatisfactory?
Check out some of the most common reasons why your company’s ROA is not within your objectives:
- Strategies that do not take advantage of the assets’ potential;
- Maintain assets that only bring loss and not profit;
- Inefficiency in operational management and expenditure control;
- Investment in projects that are not profitable.
How to increase ROA
Now that we know what ROA is, the importance of operating profit and average total assets and how to calculate that ratio, you may be asking yourself: how to increase ROA?
There are two alternatives in this regard:
- the decrease in its assets;
- increasing your company’s operating profit.
In the sense of decreasing assets, it is necessary to first know them and make an operational control of them:
- Are they making a profit or a loss?
- Do you spend more on them or do you earn more?
- What are the costs to maintain them?
To answer these questions it is essential that the company has a very well integrated system that presents the detailed details of each asset.
When talking about operating profit, it is necessary to consider the costs and gains in relation to the administrative and commercial part in general.
It is necessary to assess whether investments in these areas are paying off. To find out what the value of your operating profit is, just take your revenue and subtract from your operating expenses. The result of this account accounts for its operating profit.
Importance of profitability indexes
Profitability indices such as ROA go beyond simple data that show the manager how much profit the company has achieved.
They serve as a reliable basis for business decision making regarding a diagnosis of spending and billing. ROA, like any index in this area, helps the company to keep its financial health up to date.
After all, with the profitability indexes, the manager can create strategies based on their numbers to prove the benefits of investing in your company.
In other words, the profitability indexes serve to generate and enhance the company’s value in the market among investors, shareholders and competitors.
In addition to providing support for the manager to correct his investments and become assertive in his profitability analysis.
Making a difference with ROA
In a market where every detail makes a difference, understanding what ROA means is recognizing an index that points to the importance of assets around profit.
Taking this as a basis, it is possible not only to make more assertive investments, but to analyze in a grounded way what is working and what is not.
This allows for a comprehensive analysis of the company’s management both in comparison to the numbers themselves, from time to time, and as a basis for comparing its assets and profits against its competitors.
ROA is of interest not only to managers, but also serves as a satisfaction for the company’s investors and analysts. Not to mention that a good ROA can attract new activists.
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