Return on equity, also known as "return on equity", is Return on Equity in English and is often abbreviated as ROE. Return on equity measures a company's ability to use its equity to generate profits and represents the net profit generated by a company per unit of shareholder equity. The higher the return on equity, it usually indicates the company's ability to create profits using the capital invested by shareholders, indicating that the company has higher management efficiency and better profitability. It may also mean that the company can provide higher returns to shareholders. However, it should be noted that return on equity is best used to compare different companies in the same industry, or the same company at different times. Because different types of companies have different levels of assets and debt on their balance sheets, as well as different income levels, comparing their return on equity does not have indicative significance. Analyze the company's historical data Looking at a company's ROE over different periods of time can provide insight into how the company has used equity financing to grow its business. If the company's return on equity will continue to increase, it means that the company has good equity utilization capabilities, that is, it can effectively reinvest earnings to generate higher profits without injecting new equity. In contrast, a decline in ROE may mean that the company's ability to create value for shareholders is declining. Comparison between different companies in the same industry A company's competitive advantages can be analyzed by comparing its return on equity to the average for its industry. A company is generally considered worth investing in if its return on equity is higher than the average for its industry. Things to note Return on equity is not an absolute indicator of value analysis. The increase in return on equity sometimes does not come from an increase in the company's profitability, but from an increase in costs. For example, if a company's debt increases, then shareholders' equity will decrease, causing the calculated return on equity to increase, but this will not be due to increased profitability. What return on equity is ideal? Typically, within the same industry, a higher return on equity represents a company's higher ability to utilize equity. Different industries have their own average ROE, so it only makes sense to compare ROE across companies in the same industry. For example, in the Homebuilding industry, the industry average return on equity is around 23%, while in the Auto Parts industry, the return on equity is around 6%. It can be seen that cross-industry comparisons of return on equity are of little significance. So, is a higher return on equity necessarily better? The answer is no. For example, in both cases below, the increase in return on equity was not due to the company optimizing its use of equity. When a company buys back stock, it directly depresses shareholder equity, and ROE increases because the denominator decreases. A higher ROE can also be caused by high debt, since the more debt a company has, the less shareholder equity it has, making the ROE higher. For example, Company A and Company B both have assets of $1,000 and net income of $120. Company A has a debt of $500 and Company B has a debt of $200. Then, Company A’s return on equity is: $120 / ($1000 – $500) = 24% Company B’s return on equity is: $120 / ($1000 – $200) = 15% By calculating the return on equity, Although Company A appears to have higher profitability, because it has more debt, the benefits to investors will be limited. At this time, it may be more appropriate to evaluate it in conjunction with return on capital (ROIC), which can more fully reveal the degree of correlation between debt and returns. Comparison of return on equity across different industries Below is the return on equity for different industries, with data updated in January 2024. Industry number of companies Return on equity Advertising573.25% Aerospace/Defense7013.19% Air Transport2521.94% Apparel389.20% Auto & Truck349.37% Auto Parts395.72%
Bank (Money Center)1514.87% Banks (Regional)62512.14% Beverage (Alcoholic)198.70% Beverage (Soft)2930.56% Broadcasting22-2.16% Brokerage & Investment Banking2710.41% Building Materials4421.35% Business & Consumer Services16214.00% Cable TV1019.47% Chemical (Basic)328.89% Chemical (Diversified)4-2.36% Chemical (Specialty)6814.94% Coal & Related Energy1829.07% Computer Services7218.77% Computers/Peripherals360.00% Construction Supplies4527.11% Diversified2315.87% Drugs (Biotechnology)572-11.59% Drugs (Pharmaceutical)24517.32% Education311.67% Electrical Equipment10323.70% Electronics (Consumer & Office)13-6.63% Electronics (General)1298.80% Engineering/Construction436.41% Entertainment98-0.27% Environmental & Waste Services5721.01% Farming/Agriculture4227.51% Financial Svcs. (Non-bank & Insurance)17222.36% Food Processing8210.10% Food Wholesalers1421.11% Furn/Home Furnishings31-6.53% Green & Renewable Energy1710.68% Healthcare Products2308.31% Healthcare Support Services11915.62% Healthcare Information and Technology1285.18% Homebuilding3222.88% Hospitals/Healthcare Facilities3261.97% Hotel/Gaming6835.87% Household Products9326.98% Information Services188.43% Insurance (General)2113.52% Insurance (Life)231.32% Insurance (Prop/Cas.)5010.36% Investments & Asset Management33413.78% Machinery10319.02% Metals & Mining6812.17% Office Equipment & Services172.66%
Oil/Gas (Integrated)419.85% Oil/Gas (Production and Exploration)16631.09% Oil/Gas Distribution2442.41% Oilfield Svcs/Equip.10029.65% Packaging & Container228.54% Paper/Forest Products715.17% Power508.60% Precious Metals61-2.33% Publishing & Newspapers213.40% R.E.I.T.1934.57% Real Estate (Development)17-8.54% Real Estate (General/Diversified)119.11% Real Estate (Operations & Services)60-8.27% Recreation552.56% Reinsurance131.23% Restaurant/Dining64NA Retail (Automotive)3047.33% Retail (Building Supply)16NA Retail (Distributors)6225.45% Retail (General)2619.55% Retail (Grocery and Food)1414.78% Retail (REITs)286.52% Retail (Special Lines)1059.64% Rubber&Tires3-10.00% Semiconductor6312.61% Semiconductor Equip3032.89% Shipbuilding & Marine87.82% Shoe1329.90% Software (Entertainment)8423.26% Software (Internet)35-14.54% Software (System & Application)35124.44% Steel2922.19% Telecom (Wireless)139.74% Telecom. Equipment6624.55% Telecom. Services42-0.34% Tobacco16NA Transportation3628.27% Transportation (Railroads)431.68% Trucking2212.97% Utility (General)1411.15% Utility (Water)1310.02% Total Market648115.98% Total Market (without financials)521416.59% Data updated January 2024: NYU Return on Equity vs Return on Assets Return on equity, in English, is Return on Equity, or ROE for short. Return on assets, in English, is Return on Asset, or ROA for short. The calculation formulas for ROE and ROA are as follows: ROA = Net Profit / Total Assets ROE = Net Profit / (Total Assets - Total Debt) As can be seen from the formula, ROA reflects the profit rate generated by the joint funds of shareholders and creditors, while ROE reflects the profit rate generated by the funds invested only by shareholders.
To truly understand a company's true operating capabilities, it should be analyzed together with the two indicators of ROE and ROA. When a company has no debt, the ROE and ROA values are the same; When a company's debt is within a reasonable range, if its ROA value looks good, then its ROE value should be good, and the difference from the ROA should not be too large; When a company takes on too much debt, the difference between its ROE value and ROA will be very large, indicating that the company does not make good use of equity, but borrows too much debt to maintain the company's operating profits. When only looking at the ROE value, it is easy to mislead investors in judging the company's profitability; FAQ