Return on assets (ROA) is an important valuation and growth metric for companies. If you want to understand a company's business, then determining the company's ROA is useful. Here, we cover the following topics to inform you about ROA and help you calculate it for any business:
Return on assets is a financial metric that tells you how much profit a company generates relative to the value of its assets. A company's assets encompass all of the resources that it owns or controls that produce business value.
The formula for ROA, which is expressed as a percentage, is straightforward:
ROA = Net Income ÷ Total Assets
There are two ways to calculate return on assets — by using net income and total assets and by using net profit margin and asset turnover. All the numbers needed in these calculations can be obtained from a company's financial statements. We'll use 2020 results from healthcare giant Johnson & Johnson (JNJ +1.54%) as an example to illustrate both methods.
Return on assets is similar to another financial metric — return on equity (ROE). Both ROA and ROE measure how well a business is performing. The key difference between the two is that ROE divides net income by shareholder's equity instead of by total assets as ROA does.
Here are a couple of questions that frequently arise about return on assets:
The ROA calculation method that uses only net income and total assets is simpler than the method that uses net profit margin and asset turnover. However, the latter method more accurately conveys a company's ROA throughout the reporting period, while the simpler method expresses a company's ROA only at the close of the period. And, using the more complex method enables you to learn more about the company by also determining its net profit margin and asset turnover rate.
Generally speaking, ROA values of more than 5% are considered to be pretty good. An ROA of 20% or more is great. However, ROAs vary by industry, with some industries tending to have lower ROAs than others.
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Net income as a percentage of revenue is known as the net profit margin, and it can be useful for businesses to know.
Return on assets is a useful metric because it provides insight on how effectively a company generates profits from its assets. Companies with high ROAs derive more profits from the same amount of assets than companies with low ROAs. The stocks of companies with high ROAs are more likely to perform well over the long term.
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