Treasury Practice

Return on Total Assets (ROTA)

Published: Sep 2006

Return on Total Assets (ROTA), sometimes also referred to as Return on Assets (ROA), is a measure of how effectively a company uses its assets. A company employs its assets (ie anything the company owns) to produce future economic benefit (ie profit). By comparing the input, in terms of total assets, to the output in terms of profits, ROTA provides a measure of the profitability of a company. There are three main methods of calculating ROTA, which is expressed as a percentage.

The first method is to divide net income by total assets:

\(ROTA=\frac{Net\: Income}{Total\: Assets}\times{100}\)
While this will work well in most cases, a second way of calculating ROTA attempts to assess operational performance, rather than financial performance. Instead of using net income, it compares the net profit before interest and taxes, elements which are non-operational, to the assets that were employed to achieve this result. Therefore the pre-tax ROTA can be used to compare companies with different financing strategies as well as companies that are subject to different tax regimes.

\(ROTA=\frac{Earnings\: before\: Interest\: and\: Taxes}{Total \:Assets}\times{100}\)

The higher the ROTA, the more profit a company makes relative to its investment. As some industries are more capital intensive than others, ROTA figures of companies in different industries can vary widely. Thus, it is important to compare ROTA values either of the same company over time, or of similar companies over the same time period.

ROTA can also be used to measure the performance and profitability of different business divisions. This is because pre-tax ROTA measures the profits against the assets that a division uses and hence gives a good indication of the profitability and effectiveness of each division. The fact that pre-tax ROTA is unaffected by the financing structure, such as the debt/equity mix or the costs of financing, is also advantageous for this kind of use, as the management of business divisions is typically not involved in these types of decisions.

A third way of calculating ROTA focuses on the effects that the operating cycle has on the profitability of a company. It multiplies the Return on Sales with the asset turnover.

\(ROTA={Return \:on \:Sales}\times{Asset\: Turnover}{\frac{EBIT}{Sales}}\times{\frac{Sales}{Total\: Assets}}\times{100}\)

The asset turnover is the company’s sales in relation to the total assets used to generate these sales. The higher the number the better. The formula shows that operational management can influence ROTA by improving either the profit margin, for example due to increased revenue or lower cost, or the asset turnover. In companies that have a high share of inventories or accounts receivable the management of these particular assets, for example the reduction of inventory, can effectively increase ROTA. The ROTA formula may also reveal whether the company in question is a high profit margin low volume or low profit margin high volume producer.

However, the disadvantage of this method is that sales may not be not the best indicator of efficiency in every company. In addition, the assets used by ROTA are only the assets figuring on the balance sheet, making it difficult to compare companies with varying degrees of intangible assets. If the ROTA of different companies are compared, the companies should be similar in terms of capital intensity and the use of intangible assets.

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