Definition: The Return on Assets Ratio shows how well a company can convert its investment in assets into profits or simply, it is the ratio that measures the ability of a company to convert the money spent on purchasing the assets into net income and profits.
It is also referred to as Return on Investments, i.e. how much profit a firm is generating out of the investments. Ideally, it is better to compare the company’s current ROA with that of the previous years or with the ROA of a similar company, since the industry standards can vary. The formula to calculate this ratio is:
Return on Assets Ratio: Profit after tax/ Average Total Assets
Where, Average total assets = (Assets in the beginning+ Assets at the end of the financial year) / 2
The Higher value of ratio shows that firm is able to earn more with fewer investments and hence is able to utilize its assets more efficiently.
Example: Suppose a firm has a net profit of Rs 50,000 and the total assets as on 1 July 2014 and 30 June 2015 were Rs 2,00,000 and 3,00,000 respectively. Then Return on Assets Ratio will be:
Return on Assets Ratio= 50,000/2,50,000 = 0.2 or 20%
[Average Assets = (200000+300000) /2 = 250000)]