Return on Operating AssetsDefined along with Formula & How to Calculate

Written By:
Adiste Mae

Reviewed By:
FundsNet Staff

One of the ways to measure the profitability of a company is by determining how efficiently the revenue-generating assets are used.

The revenue-generating assets are the assets used in the business’s day-to-day operations.

Part of the management’s responsibility is to eliminate assets that are not revenue-generating.

Simply stated, computing the Return on Operating Assets is to measure a company’s profitability.

A higher ROAA indicates higher profitability.

Since businesses exist to generate more revenue, it only makes sense for them to always aim for a higher ROAA.

This also means identifying key areas that need improvement and help in the company’s long-term goals.

Return on Operating Assets (ROOA) Formula

The formula to compute the ROOA is shown below:

ROOA = Net Income / Operating Assets

As opposed to the Return on Total Assets which considers all the assets of a company whether revenue-generating or not, the ROOA only takes into consideration the assets that are revenue-generating.

Two important factors in the formula are the Net Income (the income after deducting all the expenses from the total sales and is to be distributed to shareholders) and the Operating Assets (Current Assets such as Cash, Accounts Receivable, etc.).

While the computation for the ROOA is straightforward, there are other issues that need to be considered in the computation.

Among these are depreciation and unusual income.

Depreciation expense can distort the result, especially if the company uses an accelerated depreciation technique, and has to be removed from the Operating Assets.

Unusual income also needs to be removed from the Net Income especially if it does not contribute to the income-generating activities of the company.

ROOA Example

The owner of Woodworking Furniture plans on determining the ROOA of the company and has instructed the accounting department to determine the rate.

Part of this exercise is to identify the assets that are no longer useful.

The previous year’s record shows Net Income to be $1,500,000 and Gross Assets of $5,000,000 with excess equipment worth $900,000.

Based on the above, the important amounts are the following:

Net Income: $1,500,000

Operating Assets: $4,100,000 ($5,000,000 – $900,000)

Applying the ROOA formula, the ROOA can be computed as:

ROOA = $1,500,000 / $4,100,000

ROOA = 36.59%

The ROOA indicates that 36.59% of the company’s operating assets have contributed to the Net Income.

Analysis of ROOA

It is imperative for businesses to measure the revenue-generating potential of their assets.

If in their analysis they find that expensive pieces of equipment do not add value to the company, it will be much better if they instead purchase cheaper equipment with the same productivity contribution.

Since the ROOA is dependent on net income and operating assets, the net income in particular is influenced by different accounts such as cost of goods sold, salaries and wages, and other expenses. Because of these factors, the ratio is sensitive to the different changes in these accounts.

Analysis of the ROOA for certain periods instead of doing it just once ensures that the company is able to monitor which of the assets are still helping add value to the business.

Through this financial ratio, the non-profitable assets are separated from the profitable ones.

This is typically done when revenues and costs are matched with operating assets.

When the cost of manufacturing a product becomes too expensive, especially with the needed equipment, and they are only guaranteed a minimal return, it is more prudent to simply dispose of the equipment and shift to another industry instead.

The ROOA can also be used to compare good and bad investment decisions and analyze ROOAs in different periods and across their competition.

Conclusion

The ROOA is expressed as a percentage and needs two accounts – the net income and operating assets.

It is used to measure the efficiency of revenue-generating assets in business operations.

When the ROOA is high, it signifies a higher efficiency.