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Return on equity (ROE)

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Definition of Return on equity (ROE)

Return On Equity (ROE) Image 1

Return on equity (ROE)

Indicator of profitability. Determined by dividing net income for the past 12
months by common stockholder equity (adjusted for stock splits). Result is shown as a percentage. Investors
use roe as a measure of how a company is using its money. roe may be decomposed into return on assets
(ROA) multiplied by financial leverage (total assets/total equity).


return on equity (ROE)

This key ratio, expressed as a percent, equals net
income for the year divided by owners’ equity. roe should be higher than
a business’s interest rate on debt because the owners take more risk.



Related Terms:

Abnormal returns

Part of the return that is not due to systematic influences (market wide influences). In
other words, abnormal returns are above those predicted by the market movement alone. Related: excess
returns.


Absolute Right of Return

Goods may be returned to the seller by the purchaser without restrictions.


Accounting rate of return (ARR)

A method of investment appraisal that measures
the profit generated as a percentage of the
investment – see return on investment.


accounting rate of return (ARR)

the rate of earnings obtained on the average capital investment over the life of a capital project; computed as average annual profits divided by average investment; not based on cash flow



After-tax real rate of return

Money after-tax rate of return minus the inflation rate.


All equity rate

The discount rate that reflects only the business risks of a project and abstracts from the
effects of financing.


Return On Equity (ROE) Image 2

annual return

The fund return, for any 12-month period, including changes in unit value and the reinvestment of distributions, but not taking into account sales, redemption, distribution or other optional charges or income taxes payable by any unitholder that would reduce returns.


Annualized holding period return

The annual rate of return that when compounded t times, would have
given the same t-period holding return as actually occurred from period 1 to period t.


Arithmetic average (mean) rate of return

Arithmetic mean return.


Arithmetic mean return

An average of the subperiod returns, calculated by summing the subperiod returns
and dividing by he number of subperiods.


Asset/equity ratio

The ratio of total assets to stockholder equity.


Average accounting return

The average project earnings after taxes and depreciation divided by the average
book value of the investment during its life.


Average rate of return (ARR)

The ratio of the average cash inflow to the amount invested.


book rate of return

Accounting income divided by book value.
Also called accounting rate of return.


Book Returns

Book yield is the investment income earned in a year on a portfolio of assets purchased over a number of years and at different interest rates, divided by the book value of those assets.


Return On Equity (ROE) Image 3

Bottom-up equity management style

A management style that de-emphasizes the significance of economic
and market cycles, focusing instead on the analysis of individual stocks.


CARs (cumulative abnormal returns)

a measure used in academic finance articles to measure the excess returns an investor would have received over a particular time period if he or she were invested in a particular stock.
This is typically used in control and takeover studies, where stockholders are paid a premium for being taken over. Starting some time period before the takeover (often five days before the first announced bid, but sometimes a longer period), the researchers calculate the actual daily stock returns for the target firm and subtract out the expected market returns (usually calculated using the firm’s beta and applying it to overall market movements during the time period under observation).
The excess actual return over the capital asset pricing model-determined expected return market is called an ‘‘abnormal return.’’ The cumulation of the daily abnormal returns over the time period under observation is the CAR. The term CAR(-5, 0) means the CAR calculated from five days before the
announcement to the day of announcement. The CAR(-1, 0) is a control premium, although Mergerstat generally uses the stock price five days before announcement rather than one day before announcement as the denominator in its control premium calculation. However, the CAR for any period other than (-1, 0) is not mathematically equivalent to a control premium.



Classical Macroeconomics

The school of macroeconomic thought prior to the rise of Keynesianism.


Common stock/other equity

Value of outstanding common shares at par, plus accumulated retained
earnings. Also called shareholders' equity.


Contra-equity account

An account that reduces an equity account. An example is Treasury stock.


Cost of Equity

Same as the cost of common stock. Sometimes viewed as the
rate of return stockholders require to maintain the market value of
the company's common stock.


Cumulative abnormal return (CAR)

Sum of the differences between the expected return on a stock and the
actual return that comes from the release of news to the market.


Debt/equity ratio

Indicator of financial leverage. Compares assets provided by creditors to assets provided
by shareholders. Determined by dividing long-term debt by common stockholder equity.


Debt/Equity Ratio

A comparison of debt to equity in a company's capital structure.


debt-to-equity ratio

A widely used financial statement ratio to assess the
overall debt load of a business and its capital structure, it equals total liabilities
divided by total owners’ equity. Both numbers for this ratio are
taken from a business’s latest balance sheet. There is no standard, or
generally agreed on, maximum ratio, such as 1:1 or 2:1. Every industry
is different in this regard. Some businesses, such as financial institutions,
have very high debt-to-equity ratios. In contrast, many businesses
use very little debt relative to their owners’ equity.


Deferred equity

A common term for convertible bonds because of their equity component and the
expectation that the bond will ultimately be converted into shares of common stock.


Return On Equity (ROE) Image 4

Dollar return

The return realized on a portfolio for any evaluation period, including (1) the change in market
value of the portfolio and (2) any distributions made from the portfolio during that period.



Dollar-weighted rate of return

Also called the internal rate of return, the interest rate that will make the
present value of the cash flows from all the subperiods in the evaluation period plus the terminal market value
of the portfolio equal to the initial market value of the portfolio.


Dual syndicate equity offering

An international equity placement where the offering is split into two
tranches - domestic and foreign - and each tranche is handled by a separate lead manager.


Equity

Represents ownership interest in a firm. Also the residual dollar value of a futures trading account,
assuming its liquidation at the going market price.


Equity

Funds raised from shareholders.


Equity

Amounts contributed to the company by the owners (contributed capital) plus the residual earnings of the business (retained earnings).


equity

Refers to one of the two basic sources of capital for a business, the
other being debt (borrowed money). Most often, it is called owners’
equity because it refers to the capital used by a business that “belongs”
to the ownership interests in the business. Owners’ equity arises from
two quite distinct sources: capital invested by the owners in the business
and profit (net income) earned by the business that is not distributed to
its owners (called retained earnings). Owners’ equity in our highly developed
and sophisticated economic and legal system can be very complex—
involving stock options, financial derivatives of all kinds, different
classes of stock, convertible debt, and so on.


Equity

The difference between the total of all recorded assets and liabilities on the balance
sheet.


Equity

Ownership. Common stock represents equity in a corporation.


Equity

The net worth of a business, consisting of capital stock, capital (or paid-in) surplus (or retained earnings), and, occasionally, certain net worth reserves. Common equity is that part of the total net worth belonging to the common shareholders. Total equity includes preferred shareholders. The terms common stock, net worth, and common equity are frequently used interchangeably.


equity

The net worth of a company. This represents the ownership interest of the shareholders (common and preferred) of a company. For this reason, shares or stocks are often known as equities.


Equity-based insurance

Life insurance or annuity product in which the cash value and benefit level fluctuate according to the performance of an equity portfolio.


Equity Buy-Back

Refers to the investors percentage ownership of a company that can be re-acquired by the company, usually at a pre-determined amount.


Equity cap

An agreement in which one party, for an upfront premium, agrees to compensate the other at
specific time periods if a designated stock market benchmark is greater than a predetermined level.


Equity claim

Also called a residual claim, a claim to a share of earnings after debt obligation have been
satisfied.


Equity collar

The simultaneous purchase of an equity floor and sale of an equity cap.


Equity contribution agreement

An agreement to contribute equity to a project under certain specified
conditions.


Equity floor

An agreement in which one party agrees to pay the other at specific time periods if a specific
stock market benchmark is less than a predetermined level.


Equity investment

Through equity investment, investors gain part ownership of the corporation. The primary type of equity investment is corporate stock.


Equity kicker

Used to refer to warrants because they are usually issued attached to privately placed bonds.


Equity-linked policies

Related: Variable life


Equity market

Related:Stock market


Equity Method

Accounting method for an equity security in cases where the investor has sufficient
voting interest to have significant influence over the operating and financial policies of an
investee.


Equity multiplier

Total assets divided by total common stockholders' equity; the amount of total assets per
dollar of stockholders' equity.


Equity options

Securities that give the holder the right to buy or sell a specified number of shares of stock, at
a specified price for a certain (limited) time period. Typically one option equals 100 shares of stock.


Equity Security

An ownership interest in an enterprise, including preferred and common stock.


Equity swap

A swap in which the cash flows that are exchanged are based on the total return on some stock
market index and an interest rate (either a fixed rate or a floating rate). Related: interest rate swap.


Equityholders

Those holding shares of the firm's equity.


Euroequity issues

Securities sold in the Euromarket. That is, securities initially sold to investors
simultaneously in several national markets by an international syndicate. Euromarket.
Related: external market


Ex post return

Related: Holding period return


Exante return

The expected return of a portfolio based on the expected returns of its component assets and
their weights.


Excess return on the market portfolio

The difference between the return on the market portfolio and the
riskless rate.


Excess returns

Also called abnormal returns, returns in excess of those required by some asset pricing model.


Expected future return

The return that is expected to be earned on an asset in the future. Also called the
expected return.


Expected return

The return expected on a risky asset based on a probability distribution for the possible rates
of return. Expected return equals some risk free rate (generally the prevailing U.S. Treasury note or bond rate)
plus a risk premium (the difference between the historic market return, based upon a well diversified index
such as the S&P500 and historic U.S. Treasury bond) multiplied by the assets beta.


Expected Return

The total amount of money (return) an investor anticipates to receive from an investment.


Expected return-beta relationship

Implication of the CAPM that security risk premiums will be
proportional to beta.


Expected return on investment

The return one can expect to earn on an investment. See: capital asset
pricing model.


Foreign equity market

That portion of the domestic equity market that represents issues floated by foreign companies.


GEMs (growing-equity mortgages)

Mortgages in which annual increases in monthly payments are used to
reduce outstanding principal and to shorten the term of the loan.


Geometric mean return

Also called the time weighted rate of return, a measure of the compounded rate of
growth of the initial portfolio market value during the evaluation period, assuming that all cash distributions
are reinvested in the portfolio. It is computed by taking the geometric average of the portfolio subperiod
returns.


Holding period return

The rate of return over a given period.


Horizon return

Total return over a given horizon.


Incremental internal rate of return

IRR on the incremental investment from choosing a large project
instead of a smaller project.


Internal rate of return

Dollar-weighted rate of return. Discount rate at which net present value (NPV)
investment is zero. The rate at which a bond's future cash flows, discounted back to today, equals its price.


Internal rate of return

a. The average annual yield earned by an investment during the period held.
b. The effective rate of interest on a loan.
c. The discount rate in discounted cash flow analysis.
d. The rate that adjusts the value of future cash receipts earned by an investment so that interest earned equals the original cost.
See Yield to maturity.


Internal rate of return

The rate of return at which the present value of a series of future
cash flows equals the present value of all associated costs. This measure is most
commonly used in capital budgeting.


Internal rate of return (IRR)

A discounted cash flow technique used for investment appraisal that calculates the effective cost of capital that produces a net present value of zero from a series of future cash flows and an
initial capital investment.


internal rate of return (IRR)

The precise discount rate that makes the
present value (PV) of the future cash returns from a capital investment
exactly equal to the initial amount of capital invested. If IRR is higher
than the company’s cost-of-capital rate, the investment is an attractive
opportunity; if less, the investment is substandard from the cost-ofcapital
point of view.


Internal Rate of Return (IRR)

The discount rate that equates the present value of the net cash
inflows with the present value of the net cash outflows
(investments). The IRR measures the profitability (rate of return) of
an investment in a project or security.


internal rate of return (IRR)

the expected or actual rate of
return from a project based on, respectively, the assumed
or actual cash flows; the discount rate at which the net
present value of the cash flows equals zero


internal rate of return (IRR)

Discount rate at which project NPV = 0.


Inventory returns

Inventory returned from a customer for any reason. This receipt
is handled differently from a standard inventory receipt, typically into an inspection
area, from which it may be returned to stock, reworked, or scrapped.


Investor's equity

The balance of a margin account. Related: buying on margin, initial margin requirement.


Leveraged equity

Stock in a firm that relies on financial leverage. Holders of leveraged equity face the
benefits and costs of using debt.


Leveraged required return

The required return on an investment when the investment is financed partially by debt.


Long-term debt to equity ratio

A capitalization ratio comparing long-term debt to shareholders' equity.


Macroeconomics

The study of the determination of economic aggregates such as total output and the price level.


Market return

The return on the market portfolio.


Microeconomics

The study of firm and individual decisions insofar as they affect the allocation and distribution of goods and services.


Money rate of return

Annual money return as a percentage of asset value.


Multiple rates of return

More than one rate of return from the same project that make the net present value
of the project equal to zero. This situation arises when the IRR method is used for a project in which negative
cash flows follow positive cash flows. For each sign change in the cash flows, there is a rate of return.


owners' equity

Refers to the capital invested in a business by its shareowners
plus the profit earned by the business that has not been distributed
to its shareowners, which is called retained earnings. Owners’
equity is one of the two basic sources of capital for a business, the other
being borrowed money, or debt. The book value, or value reported in a
balance sheet for owners’ equity, is not the market value of the business.
Rather, the balance sheet value reflects the historical amounts of capital
invested in the business by the owners over the years plus the accumulation
of yearly profits that were not paid out to owners.


Owners' equity

The total of all capital contributions and retained earnings on a business’s
balance sheet.


Portfolio internal rate of return

The rate of return computed by first determining the cash flows for all the
bonds in the portfolio and then finding the interest rate that will make the present value of the cash flows
equal to the market value of the portfolio.


Preferred equity redemption stock (PERC)

Preferred stock that converts automatically into equity at a
stated date. A limit is placed on the value of the shares the investor receives.


Purchase returns

A contra account that reduces purchases by the amount of items purchased that were subsequently returned.


Quasi-Equity

Funds, other than paid-up capital and retained earnings, employed in a business and which will remain in a business as permanent capital.


rate of return

Total income per period per dollar invested.


Rate of Return

return on invested capital (calculated as a percentage). Often an investor has, as one of their investment criteria, a minimum acceptable rate of return on an acquisition.


RATE OF RETURN ON STOCKHOLDERS’ EQUITY

The percentage return or profit that management made on each dollar stockholders invested in a company. Here’s how you figure it:
(Net income) / (Stockholders’ equity)


RATE OF RETURN ON TOTAL ASSETS

The percentage return or profit that management made on each dollar of assets. The formula is:
(Net income) / (Total assets)



 

 

 

 

 

 

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