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:

• Proprietary Ratio or Equity Ratio
• Return on Equity Capital (ROEC) Ratio
• Fixed Assets to Proprietor’s Fund Ratio
• Current Assets to Proprietor’s Fund Ratio
• Fixed Assets Turnover Ratio
• Dividend Yield Ratio
• Debt Service Ratio or Interest Coverage Ratio
• Dividend Payout Ratio
• Financial Accounting Ratios & Formulas
• Over trading and Under Trading