Rooe

Discussion in 'Small Business Helper' started by pop, Feb 18, 2005.

  1. pop

    pop Guest

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    Hi, I know that Return on capital employed (ROCE)is a profitability ratio which measures the ability of a company to make profits through capital utilization. The higher the percentage the better. But what is Return on owner’s equity (ROOE)? Is it's formula EBIT / Ordinary share capital + reserves ?
     
  2. tsbhelper

    tsbhelper Small Business Helper Forum Moderator

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    Return on Owner's Equity

    Hi Pop,

    Not sure exactly what your purpose is in asking this question but will be happy to give you the best information I have on this subject. Since you reference ordinary share capital it would appear you are looking for an accounting definition referring to a corporate set of books.

    Return on owner's equity may be calculated several different ways, depending on what type of business you are in. In general, the way your accounting system is set up will determine how this is done. What this means is that whatever the total of capital assets you have recorded on your books which would be classified as owner's or share equity is the number you would use to divide your annual P/L figure into.

    This number is very misleading. If, for example, the business is highly labor intensive with few capital assets the return on owner's equity would tend to be relatively high, and if the business were capital intensive it would tend to be be relatively low. In neither circumstance would it be truly reflective of the profitabity of the company.

    The Small Business Helper
     
  3. pop

    pop Guest

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    Thanks for your reply, helper.

    Well cause I only know of ROE. Return on equity but this is usually on shareholders. I got confused when I saw on owner's equity. Can I assume instead of shareholders portion of the formula, it would be owner's shares, ie capital?

    And I have no idea what the values mean. If a company has an ROOE of say 20%, what does this mean. Is this good or bad? But from your explanation it seems that there is no good or bad, and it depends on industry and type of business?

    Thanks.
     
  4. tsbhelper

    tsbhelper Small Business Helper Forum Moderator

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    Pop.

    To answer your last question, yes. For the purposes of a sole proprietorship or partnership that is not incorporated, it is the owner or partners total capital contribution which would be used instead of the shareholder's portion to calculate return on equity.

    Further, you are correct in saying that this number is not necessarily good or bad, but is dependent on type of business. In order to use it to judge the viability of a small business one would have to have comparative figures from other small businesses of the same type.

    If, as I suspect, you are looking into some sort of franchise or dealership type of business that someone is trying to get you involved in, then this number can easily be used by them to give you a false representation of profitability.

    If you are looking into buying a small business or entering into a franchise or dealership type of agreement there are many other things that you should consider. If this is the case and you are willing to present more detail here I would be happy to give you both my best and worst case analysis.

    The Small Business Helper
     

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