Financial Glossary
Return on Equity (ROE)
Return on Equity (ROE) measures how effectively a company generates net income from the shareholders' equity invested in the business. Formula: ROE = Net Income / Average Shareholders' Equity. It tells owners and investors how many dollars of profit are produced per dollar of equity on the balance sheet. ROE is influenced by three factors (the DuPont decomposition): net profit margin, asset turnover, and financial leverage. A company can boost ROE by improving margins, using assets more efficiently, or increasing debt -- though the last approach also raises financial risk.
Problem & Application
A campground property owner has $800,000 of equity in the business (assets minus debt) and earns $96,000 in net income. ROE = 96,000 / 800,000 = 12%. If a competing operator in the same market earns $120,000 on $600,000 of equity, their ROE is 20% -- a signal of either better pricing, lower cost structure, or higher leverage. For PE-backed campground roll-ups, ROE is a core return metric alongside IRR. For owner-operated STR portfolios, an ROE below the risk-free rate (a Treasury bond yield) raises the question of whether capital is better deployed elsewhere. Important caveat: high ROE driven by debt rather than earnings quality can mask fragility -- always review the debt-to-equity ratio alongside ROE to understand the source of the return.
In Short
ROE is a valuable measure of shareholder return and company performance, helping businesses attract investment and improve profitability.