Table of contents

1. Introduction to Accounting1h 21m
2. Transaction Analysis1h 13m
3. Accrual Accounting Concepts2h 38m
4. Merchandising Operations2h 30m
5. Inventory1h 55m
6. Internal Controls and Reporting Cash1h 16m
7. Receivables and Investments3h 8m
8. Long Lived Assets5h 1m
9. Current Liabilities2h 19m
10. Time Value of Money1h 23m
- Time Value of Money Equations
  35m
- Using Time Value of Money Tables
  47m
11. Long Term Liabilities2h 45m
12. Stockholders' Equity2h 15m
13. Statement of Cash Flows2h 24m
14. Financial Statement Analysis5h 25m
15. GAAP vs IFRS56m

14. Financial Statement Analysis

Ratios: Return on Equity (ROE)

Financial Accounting

14. Financial Statement Analysis

Ratios: Return on Equity (ROE)

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Multiple Choice

Which of the following is the correct equation for Return on Equity (ROE)?

ROE = \frac{\text{Net Income}}{\text{Average Shareholders' Equity}}

ROE = \frac{\text{Gross Profit}}{\text{Shareholders' Equity}}

ROE = \frac{\text{Net Income}}{\text{Total Liabilities}}

ROE = \frac{\text{Total Assets}}{\text{Net Income}}

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Verified step by step guidance

Step 1: Understand the concept of Return on Equity (ROE). ROE is a financial ratio that measures the profitability of a company in relation to its shareholders' equity. It indicates how effectively the company is using the equity invested by shareholders to generate profits.

Step 2: Recall the formula for ROE. The correct formula is ROE = \( \frac{\text{Net Income}}{\text{Average Shareholders' Equity}} \). This formula highlights the relationship between the company's net income and the average equity provided by shareholders.

Step 3: Analyze the options provided in the problem. Compare each formula to the correct ROE formula: \( \frac{\text{Net Income}}{\text{Average Shareholders' Equity}} \). Eliminate formulas that do not align with the definition of ROE.

Step 4: Note that \( \frac{\text{Gross Profit}}{\text{Shareholders' Equity}} \), \( \frac{\text{Net Income}}{\text{Total Liabilities}} \), and \( \frac{\text{Total Assets}}{\text{Net Income}} \) are incorrect because they do not measure profitability relative to shareholders' equity.

Step 5: Confirm that the correct formula for ROE is \( \frac{\text{Net Income}}{\text{Average Shareholders' Equity}} \), as it accurately reflects the relationship between net income and shareholders' equity.