ROE, This in Spanish: Return on equity, which receives the acronym for English, «Return on equity » It works as one of the main tools used for the economic analysis of profitability that a company has.
What is it?
The ROE is a parameter whose function is to record the performance obtained by a shareholder with respect to the funds you have invested in a specific society. By this I mean that ROE measures the feasible capacity that the company in question has, to remunerate economically for shareholders who collaborate on this.
Shareholders can analyze When using this parameter, the performance of capital that they used in an investment and, from this dynamic, control the viability to keep your funds in that partnership or to retire before the ship sinks.
How can ROE be calculated?
Return on capital or ROE, corresponds directly to the percentage obtained by dividing the net profit after taxes Go ahead the own funds.
Net profit after taxes
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Own funds
This formula can also be understood as a measure of how a certain company invests a certain amount of funds to generate adequate income.
The ROE It has applications in various sectors, all large companies use it and it works excellent to check that there is a net benefit after having invested in a certain project.
They can influence various factors at the time of calculate adequately this benefit, but the main and immovable calculation factors have already been shown, use them as an infallible parameter to verify the current and feasible future destination of your investments.
Various ROE Applications
The ROE can be applied from two different perspectives, that of investor, and that of deal you will receive this same.
ROE from the investor perspective
The ROE As a profitability ratio, it has become one of the most used for the adequate and efficient evolution of companies. High ROE is more important to shareholders than high profit in absolute terms.
From the ROE is a very indicator Useful, of how the company in which to invest this manager and generating Benefits with the capital you have deposited in him, in this way, is a parameter It is very important to pay attention without doubts, if you want to make an investment in the medium and long term, to give tracking and control to your investment.
ROE from the company's vision
The reason principal through which the financial directors of a deal they use the ROE It is to know how are you employing the investments of partners and how to generate top Benefits. At the same time, the good figures in this parameter place any company in a position favorable Before him international market, since the more high be the ROE, higher It will be the cost effectiveness that a company may have, depending on the own resources used in financing.
In other words than the ROE positions the company in a kind of global trust ranking, in which the companies with the highest indices ROE, obtain the largest investors and market their shares to top prices day by day, on the other hand if this parameter decreases, the trust of investorsIt is also overshadowed, so the company's shares lower their cost and investors who have paid a lot for them lose money. That is why it is important to keep this index always up to date and to implement more organized labor policies that are favorable to productivity.
SWR is also widely used to compare cost effectiveness Between companies in the same sector, it is important to note that the comparison between companies in different sectors can lead to poor results, since the profitability of economic capital always varies in time and form depending on the sector to which they belong.
To do a fundamental analysis of a company, the ROE is a parameter that cannot be ignored, its usefulness encompasses various sectors and professionals, the relevance of ROE It is not questionable at the moment, its presence is very clear, in the successful future that many modern companies have had that have grown wonderfully in a few years, cases such as Facebook, YouTube, Snapchat, among others.
When we calculate the ROE of a given companyWhat we are truly measuring is the ability of society to generate profits for its shareholders.
ROE provides shareholders with a tool to analyze profitability they have obtained from the funds they invested, so they will examine with this result if it is prudent to continue with the investment. To consider that a company is doing well, the ROE has to exceed the minimum profitability that as a shareholder is needed to invest in a certain business.
It also works to measure the efficiency of a business society, that is, the amount of benefit it offers from the invested resources. As an example, a company that has an ROE of 30%, therefore obtains 30 new euros of profit, for every 100 euros invested.
It is used to follow the evolution of a company and, at the same time, it enables statistical comparisons and shows how the company's resources are being used. The higher the ROE, it will directly increase the profitability that a company can offer, therefore, it will be more attractive to any investor.
Dupont's formula
Donaldson Brown This is why in 1912 you asked yourself a question that you may be asking yourself today: if the ROE of a company increases from 8% to 12% ... why has it happened? 20%. keeping net worth constant?
This is why Donaldson set out to divide the formula into five different quotients.
Here are the five components of ROE according to the Dupont formula
- [NI / EBT]: Link defined between net profit and profit after adding taxes. Related to the fiscal aspect.
- [EBT / EBIT]: The link between profit before since taxes and the benefit before since interests. Related to the volume of debt that the company has, as well as the interest it pays.
- [EBIT / Sales] It takes care of determining the relationship Go ahead the Sales and the Outcome since the operations. Determine the profit margins of the business.
- [Sales / Assets] It's him number of times sales cover total assets. Which is associated with the degree of social activity that the company has. A somewhat more complicated concept, but it has been the return of capital, that is, what you invested was recovered in a certain time.
- [Assets / Equity]. It is directly related to the number of times that equity is contained in assets. It is associated with the level of indebtedness and leverage of the company.
To clarify it further, let's look at a hypothetical example. Suppose Juan has € 200,000. With those € 200,000 he buys a property that rents it for € 20,000 after taxes. Juan's ROE is then 10%.
So Juan decides to get into debt with two more houses to rent them at the same price. Therefore, you will have a debt of 400,000 euros, on which you will have to pay 5% of interest. The net profit will be 40,0000 [60,000 of income (20,000 euros per rented apartment) less 20,000 euros for interest].
Juan's ROE has gone from 10% to 20%.
Moral of the example: It is essential to take into account the indebtedness to analyze the ROE.
We can end by saying that ROE
It works as a financial tool and comparative parameter for entrepreneurs and investors, whose economy is reflected depending on the amount of ROE that these have, by increasing this amount, they also increase the possibilities for the company to stand out in the global market, since they position themselves as a reliable company, where they can deposit comfortable and safe, with the lower risk.
The less Risk is what investors are always looking for, so ROE It talks about the companies, not about commercial promotion or sales, if not the companies' own projection into the future, where predictions are the vanguard in the economy, if you don't try to predict what will happen in the market, You will stay one step back from the rest of investors and updated companies.
It is also wonderfully useful for boosting a company's stock price, if the The ROE of a company increases, it also increases the commercial value of its shares proportionally.
It is undoubtedly one of the most functional parameters to know the utility you are having based on your investment, as well as to compare the conditions of one company and another, or to generate a good image and confidence to attract investors, now that you have learned ROE uses, take advantage of them to guide your business or investment.
