Return on Average Assets

Definition of Return on Average Assets

The term “return on average assets” or ROAA refers to the financial metric that helps in assessing how effectively a company is utilizing its assets to generate a net profit. To put it simply, this metric indicates the asset intensity of a company, such that a higher value of ROAA indicates lower asset intensity and vice versa.

Formula 

The formula for ROAA can be derived by diving the net income by the average total assets, which is then expressed in terms of percentage. Mathematically, it is represented as,

While net income is easily available as a separate line item in the income statement, average total assets can be computed as the average of the total assets at the beginning and at the ending of the year.

Examples of Return on Average Assets (With Excel Template)

Let’s take an example to understand the calculation of Return on Average Assets in a better manner.

Example #1

Let us take the example of a company that manufactures soft drinks bottles and has its unit in the village of Wheeling, IL (US). The company generated a net income of $25 million during the year 2018, while its total assets stood at $110 million at the start of the year and ended the year at $120 million. Based on the given information, calculate the ROAA of the company for the year 2018.

Solution:

Average Total Assets is calculated using the formula given below

Average Total Assets = (Beginning Total Assets + Ending Total Assets) / 2

• Average Total Assets = ($110 million + $120 million) / 2
• Average Total Assets = $115 million

Return on Average Assets is calculated using the formula given below

Return on Average Assets = Net Income / Average Total Assets

• Return on Average Assets (ROAA) = $25 million / $115 million
• Return on Average Assets (ROAA) = 21.74%

Therefore, the company managed a ROAA of 21.74% during the year 2018.

Example #2

Let us take the example of Walmart Inc. to illustrate the computation of ROAA. During 2018, the company generated a net income of $10.52 billion and its total assets at the beginning and at the ending of the year were $198.83 billion and $204.52 billion respectively. calculate Walmart Inc.’s ROAA for the year 2018 based on the given information.

Solution:

Average Total Assets is calculated using the formula given below

Average Total Assets = (Beginning Total Assets + Ending Total Assets) / 2

• Average Total Assets = ($198.83 billion + $204.52 billion) / 2
• Average Total Assets = $201.68 billion

Return on Average Assets is calculated using the formula given below

Return on Average Assets = Net Income / Average Total Assets

• Return on Average Assets = $10.52 billion / $201.68 billion
• Return on Average Assets = 5.22%

Therefore, Walmart Inc.’s ROAA for the year 2018 stood at 5.22%.

Source Link: Walmart Inc. Balance Sheet

Example #3

Let us now take the example of Apple Inc. to illustrate the concept of ROAA. During 2018, the company generated a net income of $59.53 billion, while its total assets at the start and end of the year were $375.32 million and $365.73 billion respectively. calculate Apple Inc.’s ROAA for the year 2018 based on the given information.

Solution:

Average Total Assets is calculated using the formula given below

Average Total Assets = (Beginning Total Assets + Ending Total Assets) / 2

• Average Total Assets = ($375.32 billion + $365.73 billion) / 2
• Average Total Assets = $370.53 million

Return on Average Assets is calculated using the formula given below

Return on Average Assets = Net Income / Average Total Assets

• Return on Average Assets = $59.53 billion / $370.53 million
• Return on Average Assets = 16.07%

Therefore, Apple Inc.’s ROAA for the year 2018 stood at 16.07%.

Source Link: Apple Inc. Balance Sheet

Advantages of Return on Average Assets

Some of the major advantages of return on average assets are:

• The computation of the ratio is very easy since both net income and average assets are easily available from the annual report.
• It assesses the company’s ability to utilize its assets to generate profits.

Limitations of Return on Average Assets

Some of the major limitations of return on average assets are:

• In the case of peer comparison, this ratio can’t be used for comparing the performances of companies operating in different industries.
• The ratio assumes asset value at the beginning and end of the period is reflects the asset value experienced on a regular basis, which is not always the case.

Conclusion

So, it can be seen that ROAA is a financial metric that is used by investors to assess how well a company can utilize its assets for profit maximization. The financial ratio focuses on the fact that net profit margin and gross profit margin are not enough to analyze a company, as an investor you should also know the ability of the company to utilize its assets to generate profits.