ETFs hold an edge because they tend to use passive investing and have some tax advantages.
What is return on assets?
Return on assets (ROA), also known as return on total assets, is a measure of how much profit a business is generating from its capital. This profitability ratio demonstrates the percentage growth rate in profits that are generated by the assets owned by a company.
Return on assets tells investors how efficiently a company generates profit growth from the capital it has been granted, both debt and equity. This metric is used to compare similar companies or to determine how a firm has performed over different time periods.
The return on assets formula is very similar to the return on investment (ROI) equation:
ROA = net income / average total assets
ROA = profit margin / total asset turnover
While these formulas are simpler than the ones used to determine ROI, the measures both determine the rate of return on an investment. ROI is from the point of view of the external investor, while ROA is from the point of view of the company, in which the firm takes money and invests it in assets.
The first formula above uses average total assets. This is because the assets owned by a company fluctuates over time as it buys and divests land, equipment or inventory, or because of seasonal revenue changes. Taking average assets from the time period being analyzed controls for these factors.
Return on assets is determined by using after-tax income to measure the relative profitability of the company against every dollar in assets that it owns. ROA is found on the balance sheet and is often used to test the company’s return to shareholders.
While ROA is used to compare one company to another, or to an industry benchmark, it is only useful for comparing companies in a similar sector or business line. Different industries require very different amounts of capital to generate profits; the so-called capital intensity of different business varies widely. ROA can be most useful when comparing the performance of the same company at different stages in its life cycle.
Curious to learn more about the return on your small business assets? Use our small business return on assets ratio calculator to determine your returns.
Return on assets example
A company that is using its assets efficiently will have a much higher ROA than one in the same business that is struggling to put assets to work. Similarly, the ROA of an early stage company will be higher than a mid-stage company or a well-established firm, simply because it will be acquiring more assets in order to establish the business.
As late as 2013, the electric car manufacturer Tesla had an ROA of nearly -50 percent, as it continued to invest heavily in the production of its Model S car. By 2017, this figure had improved to -3.9 percent as sales took off and profits climbed. Many investors are still skeptical of Tesla’s negative ROA, however.