Introduction to Accounting Preparing for a User’s Perspective

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Introduction to Accounting Preparing for a User’s Perspective

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Presentation transcript:

Introduction to Accounting Preparing for a User’s Perspective Compute and understand the Return on Equity ratio Debits and Credits Trainer By Kevin C. Kimball, CPA with support from www.canvas.net Free Jan. 2014 Available on the Google Play Store

Return on Equity (ROE) measures how efficiently: Resources Profits Common Shareholders Management

Return on Equity (ROE) ROE = Net Income (i.e. the “Return”) When a company only has Common Shareholders Net Income (i.e. the “Return”) ROE = Shareholder Equity (i.e. “on Equity)

+ Return on Equity (ROE) ROE = Net Income – Preferred Dividends When a company has We get our dividends first. + Common Shareholders Preferred Shareholders Net Income – Preferred Dividends ROE = Shareholder Equity – Preferred Shareholder Equity

Return on Equity (ROE) as a % X 100 = 8 %

Less efficient (maybe pay more dividends) Year X1 ROE = 1% Year X2 ROE = 2% Year X3 ROE = 3% Year X4 ROE = 5% Year X5 ROE = 10% Year X6 ROE = 15% More efficient Less efficient (maybe pay more dividends) Year X1 ROE = 50% Year X2 ROE = 40% Year X3 ROE = 30% Year X4 ROE = 25% Year X5 ROE = 20% Year X6 ROE = 15% Interesting, but how do I use it?

Is 15% the best I can do with my resources? What about: Other companies? HLC LLC bonds? Assets $100 = Assets $100 Liabilities $90 Equity $10 Liabilities $10 Equity $90 Bank deposits? Etc.? Net Inc. $2 = Net Inc. $2 ROE 20% = ROE 2%

PBC started Year 2 with 10X more assets than NBC. BUT, it generated the same $4 M in Net Income as NBC. 10% 10% 90% 90% PBC’s management uses its common shareholder-provided resources LESS efficiently than NBC.

ROA: The more assets you use to generate the same amount of Net Income, the less efficient I think you are. ROE: the equity I provide you to generate the same amount of Net Income, the less efficient I think you are

Introduction to Accounting Preparing for a User’s Perspective Compute and understand the Return on Equity ratio Debits and Credits Trainer By Kevin C. Kimball, CPA with support from www.canvas.net Free Jan. 2014 Available on the Google Play Store