Return on Assets (ROA) formula
Return on Assets (ROA) is one of the profitability ratios that can measure the company's ability to generate profits from the assets used. ROA is able to measure the company's ability to generate profits in the past and then projected in the future.
Assets or assets in question are the entire assets of the company, which are obtained from own capital or from foreign capital that has been converted by the company into company assets that are used for survival company.
ROA is a ratio that measures the comparison between profit before tax and total assets owned by the company. The higher the ROA level, the better the financial performance, because return produced is greater.
Return On Assets (ROA) is a ratio that shows how much net income is obtained when measured from the value of assets by dividing the net income obtained by the average total assets of the company.
Return On Assets (ROA) is a ratio that looks at the extent to which the investment or total assets that have been invested are able to provide a return of profits as expected. If
Return On Assets If the company is high, then the company has the ability to generate profits so that investors will be more confident that investing in the company will be profitable. Because the higher Return On Assets, implies that the company has been efficient in creating profits by processing all the total assets it owns.According to Munawir "2007:91" the usefulness of the Return on Assets analysis is stated as follows:
The indicator "Measuring instrument" used in Return on Assets (ROA) involves elements of net income and total assets "total" assets” where net income is divided by total assets or total company assets multiplied by 100% “Brigham and Houston, 2010:148”.
From the above definition, the components that make up Return on Assets (ROA) according to Kieso, Weygant Warfield translated by Emil Salim “2002:153” are as follows:
1. Excess Return On Assets (ROA)
2. Lack of Return On Assets (ROA)
Let's start with simple examples:
Assume there are no extraordinary items, taxes and depreciation.
| Case 1: Interest 15%, ROA 20% | 1a | 1b | 1c |
| Assets | 10M | 10M | 10M |
| Equity | 10M | 5M | 0 |
| Debt | 0 | 5M | 10M |
| Sales | 5M | 5M | 5M |
| OP.profit | 2M | 2M | 2M |
| Intst (15%) | 0 | 750m | 1.5M |
| Net profit | 2M | 1.25M | 0.5M |
| ROA | 20% | 20% | 20% |
| ROE | 20% | 25% | INF* |
| INF = infinity (very big, it can be interpreted as a sign that capital can print profit |
The case above is where ROA = 20% and is greater than the loan interest = 15%. In this case, the greater the use of debt, the greater our ROE.
If the term robert kiyosaki is called good debt.
| Case 2: 15% interest, 10% ROA… | 2a | 2b | 2c |
| Assets | 10M | 10M | 10M |
| Equity | 10M | 5M | 1 M |
| Debt | 0 | 5M | 9M |
| Sales | 5M | 5M | 5M |
| OP.profit | 1 M | 1 M | 1 M |
| Intst (15%) | 0 | 750m | 1.35M |
| Net profit | 1 M | 0.25M | -0.35M |
| ROA | 10% | 10% | 10% |
| ROE | 10% | 5% | -35% |
| minus: loss – interest costs are greater than operating income |
If the ROA (10%) is lower than the 15% loan interest, the more we owe the ROE will be smaller and even negative because of the high loan interest.
If the term Robert Kiyosaki this is called bad debt.
| Case 3: 15% interest, 15% ROA | 3a | 3b | 3c |
| Assets | 10M | 10M | 10M |
| Equity | 10M | 5M | 1 M |
| Debt | 0 | 5M | 9M |
| Sales | 5M | 5M | 5M |
| OP.profit | 1.5M | 1.5M | 1.5M |
| Intst (15%) | 0 | 750m | 1.35M |
| Net profit | 1.5M | 0.75M | 0.15M |
| ROA | 15% | 15% | 15% |
| ROE | 15% | 15% | 15% |
If ROA (15%) is the same as 15% loan interest, the decision to borrow or not will not affect ROE, meaning whether you want to borrow or not is not a problem.
Conclusion:
- If ROA > loan interest, theoretically owe as much as possible. But keep in mind that debt will increase financial risk. So in theory there is usually a cap for the comparison between debt and equity.
- If ROA < loan interest. Debt to cover losses or lack of capex funds will further plunge the company into a deeper hole.
- If ROA = loan interest, you can pay debt, you can or not. Will not affect the profitability of investors' capital.
Usually people make loan interest the lower limit of ROA. In this case, I don't really agree, considering that loan interest rates usually go up and down. For example, if the loan interest increases to 17%, won't the ROA be smaller than the loan interest?
I'd rather increase the margin of safety (maybe 5%). So the lower limit of my ROA to 20%. Even if the loan interest increased from 15% to 19%, I could still sleep well.
At the moment, it seems that the lending rates of companies2 on IDX range from 15%-20%. SO, be careful choosing companies with ROA below 20%.
DER = total liabilities (debt) / total equity. it should be called LER (liabilities – equity ratios).
cases 1a, 2a, and 3a: Assets 100% come from equity. DER=0 or no debt)
Cases 1b, 2b, and 3b: assets come from 50% equity and 50% debt. DER = 1.0 or the portion of debt and equity is the same.
Cases 1c, 2c, and 3c: assets come from 10% equity and 90% debt. der = 9.0 or very high use of debt.
In case 1 where ROA > interest on debt, it looks like a portfolio using large debt (big DER), ROE is getting bigger.
In case 2 where ROA < interest on debt, the more we owe (the bigger the DER), the more profit will be guessed at interest costs and the ROE will decrease. In this case, when ROA < interest on the loan, the decision to owe is a very fatal action. (NB: look at how many companies in IDX have ROA < 15% and have a very large DER…)
In case 3 where ROA = interest on the loan, it doesn't matter whether the assets are financed through equity or debt, the result will be the same rOE.
In determining whether a company has large or small debt, the most common way is to compare it to its capital. For example, if A is recorded to have a total debt of up to Rp. 10 trillion, but the capital is still greater, namely Rp. 20 trillion, then A cannot be said to have a large debt. Meanwhile, if B has a debt of only Rp. 10 billion, but the capital is smaller, namely Rp. 5 billion, then B's debt is large enough so that the shares are fundamentally less than ideal.
That's the discussion about Return on Assets (ROA) Formula – Understanding According to Experts, Functions, Elements and Example Problems I hope this review can add insight and knowledge to all of you, thank you very much for visiting. 🙂 🙂 🙂