Return on Shareholders Investment or Net Worth Ratio


Return on Shareholders Investment or Net Worth Ratio:

Definition:

It is the ratio of net profit to share holder’s investment. It is the relationship between net profit (after interest and tax) and share holder’s/proprietor’s fund.

This ratio establishes the profitability from the share holders’ point of view. The ratio is generally calculated in percentage.

Components:

The two basic components of this ratio are net profits and shareholder’s funds. Shareholder’s funds include equity share capital, (preference share capital) and all reserves and surplus belonging to shareholders. Net profit means net income after payment of interest and income tax because those will be the only profits available for share holders.

Formula of return on shareholder’s investment or net worth Ratio:

[Return on share holder's investment = {Net profit (after interest and tax) / Share holder's fund} × 100]

Example:

Suppose net income in an organization is $60,000 where as shareholder’s investments or funds are $400,000.

Calculate return on shareholders investment or net worth

Return on share holders investment = (60,000 / 400,000) × 100

= 15%

This means that the return on shareholders funds is 15 cents per dollar.

Significance:

This ratio is one of the most important ratios used for measuring the overall efficiency of a firm. As the primary objective of business is to maximize its earnings, this ratio indicates the extent to which this primary objective of businesses being achieved. This ratio is of great importance to the present and prospective shareholders as well as the management of the company. As the ratio reveals how well the resources of the firm are being used, higher the ratio, better are the results. The inter firm comparison of this ratio determines whether the investments in the firm are attractive or not as the investors would like to invest only where the return is higher.

You may also be interested in other articles from “financial statement analysis” chapter:

  1. Horizontal and Vertical Analysis
  2. Ratios Analysis
  3. Horizontal Analysis or Trend Analysis
  4. Trend Percentage
  5. Vertical Analysis
  6. Accounting Ratios Definition, Advantages, Classification and Limitations:
  7. Gross profit ratio
  8. Net profit ratio
  9. Operating ratio
  10. Expense ratio
  11. Return on shareholders investment or net worth
  12. Return on equity capital
  13. Return on capital employed (ROCE) Ratio
  14. Dividend yield ratio
  15. Dividend payout ratio
  16. Earnings Per Share (EPS) Ratio
  17. Price earning ratio
  18. Current ratio
  19. Liquid/Acid test/Quick ratio
  20. Inventory/Stock turnover ratio
  21. Debtors/Receivables turnover ratio
  22. Average collection period
  23. Creditors/Payable turnover ratio
  24. Working capital turnover ratio
  25. Fixed assets turnover ratio
  26. Over and under trading
  27. Debt-to-equity ratio
  28. Proprietary or Equity ratio
  29. Ratio of fixed assets to shareholders funds
  30. Ratio of current assets to shareholders funds
  31. Interest coverage ratio
  32. Capital gearing ratio
  33. Over and under capitalization
  34. Financial-Accounting- Ratios Formulas
  35. Limitations of Financial Statement Analysis

Other Related Accounting Articles:

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