Return on Net Assets Ratio Analysis

by Edriaan Koening

The return on net assets ratio measures the profitability of a business and helps investors make informed decisions regarding where to put their money. It analyzes whether a company uses its assets efficiently to generate as much profit as possible. While useful as an analysis tool, return on net assets ratio also has its weaknesses.

Data

Data from the company's financial statements provides the necessary inputs to calculate its return on net assets ratio. The company's balance sheet shows the company's current assets, current liabilities and fixed assets. The income statement or the profit-and-loss statement contains the company's profit or loss figure for the period of time under consideration. For calculating return on net assets ratio, use the net profit figure, which is the company's gross profit minus applicable taxes.

Calculations

To find return on net assets ratio, first calculate the company's working capital, which is its current assets minus its current liabilities. Add fixed assets to the resulting figure to get the net assets. Divide the company's net assets by the after-tax profits figure from the company's income statement to get the return on net assets ratio. Express the resulting figure as a percentage. For example, if a company has net assets of $5 million and after-tax profits of $1 million, then its return on net assets ratio is 20 percent.

Significance

Return on net assets ratio indicates the level of a company's profitability and growth. The higher the return on net assets ratio, the better it reflects on the management's performance. A high ratio suggests efficient use of assets. Tracking a company's return on net assets ratio over time provides insight regarding the company's growth. An increasing return on net assets ratio indicates that the company has financial strength to put into future projects. A decreasing return on net assets ratio may suggest changes in the company's overall strategy.

Considerations

The return on net assets ratio serves best as an analysis tool if it covers a long period of time, so it reflects the company's long-term performance. Otherwise, the ratio gives little insight into a company's growth. Investors have many different ratios and financial measures they can use to analyze a company's performance, so they should not rely too much on any one ratio. For example, measures like net present value and cash value added help investors analyze growth.

Photo Credits

  • Jupiterimages/Photos.com/Getty Images