Evaluating ROE of Different Companies

Introduction

You're comparing return on equity (ROE) across companies to decide where to allocate capital, so you need a clear, comparable signal of shareholder-level performance. ROE measures profit per $1 of shareholder equity - formally net income divided by average shareholder equity - and flags how efficiently management turns shareholders' money into earnings, though high ROE can be driven by leverage or one-off gains. ROE shows efficiency and profitability at shareholder level. (defintely use each company's 2025 fiscal-year ROE from the 10‑K/10‑Q when you run comparisons.)

Key Takeaways

• ROE measures profit per $1 of shareholder equity-use each company's 2025 fiscal-year ROE from the 10‑K/10‑Q for comparisons.
• Calculate ROE = Net income / Average shareholder equity and use consistent periods (fiscal-year vs TTM) and averaging for apples-to-apples results.
• Use DuPont (profit margin × asset turnover × financial leverage) to see whether ROE comes from pricing, efficiency, or leverage.
• Adjust for one-offs and balance-sheet changes (one-time gains/losses, tax items, buybacks, FX, goodwill impairments) before comparing.
• Screen with adjusted ROE, check ROIC and sustainable growth (g = ROE×retention), then validate with DCF/multiples-run DuPont on three peers, pick top two for Portfolio valuation.

What ROE is and how to calculate it

Define ROE in plain terms

You're comparing return on equity (ROE) to see how well companies turn shareholder money into profit, so start with a clean definition.

ROE = Net income divided by average shareholder equity. In plain words, it shows how many dollars of profit the company generates for each dollar owners have invested.

Steps to calculate:

• Pull net income attributable to common shareholders for the period (use after‑tax profit).
• Compute average shareholder equity: (opening equity + closing equity) / 2, or use a weighted average if equity swings intra‑year.
• Divide net income by that average equity and express as a percentage.

Here's the quick math with a simple example for FY2025: net income $250,000,000 divided by average equity $1,000,000,000 gives ROE = 25%. What this estimate hides: share buybacks, preferred dividends, and major one‑offs can materially raise or lower the ratio.

One-liner: ROE measures profit per dollar of shareholder equity.

Variants you'll see and when to use each

Markets report ROE in different flavors-pick the one that matches your decision horizon.

• TTM (trailing‑12‑month): uses the last four reported quarters. Best for recency and volatile earnings.
• Fiscal year: uses the full fiscal year (for example, FY2025). Best when comparing peers that share the same fiscal year timing.
• Adjusted ROE: removes one‑time items (asset sales, litigation gains), normalizes tax items, and treats preferred dividends correctly.

Best practices:

• Match the income period to the equity average (TTM income → average equity over the same four quarters).
• Remove one‑offs from net income before calculating adjusted ROE; note each adjustment in your model.
• For banks and insurance, use regulatory equity measures if available; for capex heavy firms, complement with ROIC (return on invested capital).

Example choice: if you want current performance use TTM; if you want comparable annual metrics use FY2025 figures. If earnings include a one‑time gain, calculate an adjusted ROE that excludes it-defintely call that out in notes.

One-liner: pick the ROE variant that matches the period and comparability you need.

Practical tips to keep comparisons apples-to-apples

When you screen or compare, consistency matters more than raw ROE. Use the same period, same equity definition, and the same adjustments across all companies you compare.

• Always use average equity that aligns with the income period.
• Exclude preferred dividends from net income or subtract them from equity-be consistent.
• Adjust equity for large buybacks during the period; a buyback reduces equity and can inflate ROE.
• Document every adjustment: currency translation effects, goodwill impairments, or reclassifications.

Quick checklist for a fair comparison:

• Choose TTM or FY2025 consistently.
• Apply identical one‑off removals across peers.
• Note leverage changes-rising financial leverage can lift ROE but raise risk.

One-liner: use consistent periods and averages for apples-to-apples.

DuPont decomposition: the anatomy of ROE

You're deciding which companies earn returns for shareholders efficiently, and DuPont splits ROE into actionable parts so you can tell if profits come from operations or borrowing.

Break ROE into profit margin × asset turnover × financial leverage

ROE equals net income divided by average shareholder equity. The DuPont identity rewrites that as three multiplicative parts: profit margin (net income / revenue), asset turnover (revenue / average total assets), and equity multiplier (average total assets / average shareholder equity).

Follow these steps with FY2025 numbers from company financials:

• Pull FY2025 net income, FY2025 revenue, average FY2025 total assets, and average FY2025 shareholder equity.
• Compute profit margin = net income ÷ revenue.
• Compute asset turnover = revenue ÷ average total assets.
• Compute equity multiplier = average total assets ÷ average shareholder equity.
• Multiply the three to get ROE: margin × turnover × multiplier = ROE.

Example (FY2025 illustrative): net income $180m, revenue $3,000m, avg assets $2,500m, avg equity $1,000m. Margin = 6% (180/3,000), turnover = 1.2 (3,000/2,500), multiplier = 2.5 (2,500/1,000). ROE = 0.06 × 1.2 × 2.5 = 18%.

What each component reveals: pricing, efficiency, and leverage risk

Profit margin shows pricing power and cost control. Higher margin means the company keeps more of each dollar of sales; watch for margin expansion from sustainable sources (pricing, productivity) versus one-offs (asset sales, tax credits).

• Check segment margins and gross vs operating vs net margin.
• Adjust FY2025 net income for one-time items before computing margin.
• If margin jumps while revenue is flat, ask if pricing or cost cuts are repeatable.

Asset turnover measures how efficiently assets generate sales-important for retail and industrial firms. Low turnover can signal idle capacity, heavy receivables, or overinvestment.

• Compare FY2025 turnover to prior years and peers; normalize for seasonality.
• If turnover is falling, examine capex, working capital (inventory, receivables), and disposals.
• For capex-heavy businesses, use a rolling average of assets or sales-to-capex ratios.

Equity multiplier (financial leverage) shows how much assets are funded by equity versus liabilities. High multiplier boosts ROE mechanically but raises solvency and interest-rate risk.

• Look at debt/EBITDA and interest coverage with FY2025 figures; coverage below 3× is a red flag for many sectors.
• If multiplier > 3× in non-financial firms, ask how much ROE depends on borrowing.
• Stress-test ROE: reduce margin by 200 bps and see ROE sensitivity when leverage is high.

What to watch together: a high ROE with high margin and high turnover is healthy; high ROE driven mainly by a high multiplier is fragile. Use the components to prioritize follow-up due diligence.

Decomposition tells whether high ROE is from operations or leverage

Make DuPont a checklist when you screen names: first separate operational performance from leverage effects, then test sustainability. Here's a practical workflow using FY2025 data.

• Step 1: Assemble FY2025 or TTM income statement and balance sheet; compute the three components.
• Step 2: Normalize net income for one-offs (restructuring, asset sales) before margin.
• Step 3: Benchmark each component vs FY2025 industry median and top peers.
• Step 4: Run simple sensitivity: cut margin by 200 bps and reduce turnover 10% to see ROE durability.
• Step 5: If leverage explains >50% of ROE, flag for credit review and lower valuation multiple.

One-liner: decomposition tells whether high ROE is from operations or leverage.

Action: you run DuPont on three peers using FY2025 numbers, adjust for one-offs, and hand the top two names (with component tables and sensitivity) to Portfolio by Friday; Finance: prepare the FY2025 component table and sources.

Industry context and normalization

Compare ROE against industry median and leading peers

You're sizing whether a company's ROE is genuinely strong or just looks good next to weak peers. Take the raw ROE, then place it inside the industry distribution before deciding.

Practical steps

• Pull ROE (TTM or fiscal) for the company and at least five direct peers
• Get industry median and quartiles from S&P Global, Refinitiv/Refinitiv StarMine, Bloomberg, or Compustat
• Use the same period for all comparisons (TTM vs TTM or fiscal vs fiscal)
• Compute percentile rank and relative ROE = company ROE / industry median
• Flag cases where relative ROE > 1.2x or < 0.8x for deeper review

Here's the quick math: company ROE 18%, industry median 10% → relative ROE = 1.8 (company is 80% above median). What this estimate hides: it may be driven by one-offs or leverage - so run the DuPont and cleanup steps next. If you don't have access to Bloomberg, use quarterly filings and industry reports; it's slower but defintely workable.

Action: produce a table of ROE, industry median, and percentile for your three target peers; Finance: run this by Wednesday.

Adjust for capital intensity: use ROIC for capex-heavy firms

ROE is equity-focused; ROIC (return on invested capital) tells you how efficiently the whole business uses capital - better for utilities, industrials, and telecoms where debt and fixed assets matter.

Practical steps to compute and compare

• Calculate NOPAT (net operating profit after tax) - use operating income × (1 - tax rate)
• Define invested capital = total debt + total equity - excess cash (or sum of net working capital + net PPE)
• Compute ROIC = NOPAT / average invested capital (use a 12-month average)
• Compare ROIC to WACC (weighted average cost of capital) to judge value creation
• When switching between ROE and ROIC, reconcile using leverage: ROE ≈ ROIC + (ROIC - after-tax cost of debt) × (D/E)

Example: NOPAT $150m, invested capital $1,000m → ROIC = 15% (example only). If ROE is 25% while ROIC is 15%, investigate leverage and one-offs. Best practice: for capex-heavy firms use a 3-5 year rolling ROIC to smooth large investment cycles.

Action: for each capex-heavy peer, compute TTM ROIC and compare to WACC; Ops: supply capex forecasts for the next 3 years by Friday.

Context matters: a 20% ROE in banking means something different than 20% in manufacturing

Treat ROE as a context-dependent signal not an absolute badge of quality. Banks have thin regulatory equity and operate with high leverage; manufacturers tie up cash in plants and inventory.

Practical adjustments and checks

• For banks: prefer ROTE (return on tangible equity), strip unrealized gains, and adjust equity for regulatory capital items
• For manufacturing: remove non-operating cash, include operating leases and capitalized R&D in invested capital
• Translate ROE into a common language: compare bank ROTE to its peers, and compare manufacturing ROIC to peers
• If comparing across sectors, convert both metrics to an economic-profit view (NOPAT minus capital charge)

One-liner: a 20% ROE in banking means something different than 20% in manufacturing.

What to do next: pick one bank and one manufacturer, normalize their ROE/ROIC, and report adjusted numbers with the drivers highlighted; you hand these two normalized sheets to Portfolio by Monday.

Accounting and one-off adjustments to watch

You're comparing ROE across peers and need a clean, comparable profit numerator and shareholder-equity denominator before deciding. The quick takeaway: adjust net income and equity for one-offs and capital actions so ROE measures operating performance, not accounting noise.

Remove one-time gains/losses, tax adjustments, and unusual items from net income

Direct takeaway: strip non-recurring items from reported net income to get an operating net income you can trust.

Steps to do this:

• Scan income-statement and notes for line items labeled one-time, non-recurring, discontinued operations, gain on sale, restructuring, litigation, or impairment.
• Move each item to a separate adjustments schedule with pre-tax amount and the marginal tax rate applied.
• Compute adjusted net income = reported net income - after-tax one-offs.

Here's the quick math on a simple example (example only): reported net income $500m, one-time pre-tax gain $120m, marginal tax rate 25%. After-tax one-off = $90m. Adjusted net income = $410m.

Best practices and caveats:

• Prefer trailing-12-month (TTM) aggregation to smooth timing mismatches.
• Adjust for recurring unusual items (large restructuring that repeats is not a one-off).
• Watch tax-effect timing - deferred tax items can hide the true after-tax impact.

Adjust equity for buybacks, foreign currency translation, and goodwill impairments

Direct takeaway: clean the equity base so changes from corporate actions or accounting flows don't fake higher ROE.

Practical steps:

• Buybacks - find cash used for repurchases in financing cash flow; add back cumulative buyback amount to average equity to neutralize artificial equity shrinkage.
• Foreign currency translation - remove translation reserve in other comprehensive income (OCI) if you want constant-currency equity; add or subtract the translation reserve to equity accordingly.
• Goodwill impairments - if impairment is non-recurring, add back the after-tax impairment to equity (or compute a pro-forma pre-impairment equity) when calculating average equity.

Worked example (example only): ending reported equity $3,000m, buybacks during year $300m, translation reserve negative $200m, goodwill impairment pre-tax $150m, tax rate 21%. Adjusted ending equity = 3,000 + 300 + 200 + (150 × (1 - 0.21)) = $3,419.5m. Use adjusted beginning and ending to compute average equity.

Implementation notes:

• Pull buybacks from the statement of cash flows; use gross repurchase amount, not net treasury share change.
• For banks or insurers, be careful - regulatory capital differs from GAAP equity; do not mix them without disclosure.
• Document each add-back and keep source links to the filings - defintely keep an audit trail.

One-liner: headline ROE can be misleading without these cleanups

Direct takeaway: calculate an adjusted ROE (adjusted net income / adjusted average equity) before ranking companies - otherwise buybacks, FX swings, and one-offs will bias results.

Step-by-step checklist to run in your model:

• Build a one-line adjustments table: item, pre-tax, tax rate, after-tax, source note.
• Compute adjusted net income and adjusted beginning/ending equity.
• Recalculate ROE and DuPont components using adjusted figures; flag changes > 200 bps.
• Run sensitivity on tax rate (±500 bps) and buyback timing assumptions.

What this estimate hides: adjustments depend on judgement - recurring unusuals, partial impairments, or strategic buybacks blur the line between operating performance and capital allocation. If you need consistency, pick one cleanup policy and apply it to all peers.

Action: run adjusted ROE on three peers using the checklist and hand the top two names to Portfolio for valuation; Owner: you.

Using ROE in valuation and decision rules

You're using ROE to pick candidates and to feed a valuation - do both cleanly: turn ROE into a sustainable growth rate, screen by persistency, then validate with DCF and multiples.

Combine ROE with growth to estimate sustainable ROE-driven growth (g = ROE × retention rate)

You want a forecast tied to how much profit the company keeps and reinvests. Start with fiscal-year 2025 reported results for Company Name and calculate retention and ROE from the numbers you trust.

Example (Company Name FY2025): Net income $1,200m, dividends paid $240m, average shareholder equity $6,000m. Here's the quick math: ROE = 1,200 / 6,000 = 20%. Payout = 240 / 1,200 = 20%, so retention = 80%. Sustainable growth g = ROE × retention = 20% × 80% = 16%.

Steps and best practices:

• Use trailing or FY2025 ROE consistently.
• Compute retention from cash dividends plus ordinary share buybacks (treated as returns if recurring).
• Cap g below cost of equity; if g ≥ cost of equity, use a lower terminal or ROIC-based exit.
• Adjust ROE for one-offs (restate net income) and for large buybacks that shrink equity.

What this estimate hides: changing margins, rising capex, or shifting leverage will break the g = ROE×retention assumption - so check the drivers before using g in a model. One-liner: g = ROE × retention gives a finance-grounded growth input.

Use ROE to screen stocks, then validate with DCF and relative multiples

ROE is a fast filter but not a buy signal. Use it to reduce the universe, then value the survivors properly.

Screening rules (practical):

• Pick a ROE threshold that fits the sector - e.g., >15% for industrials, >12% for software; compare to FY2025 industry medians.
• Require persistency: ROE > threshold in at least 3 of past 5 years or trailing-12-month (TTM) continuity.
• Normalize for accounting: remove one-offs in FY2025 net income and restate equity for large goodwill impairments or FX revaluations.

Validation with DCF (practical steps):

• Prefer FCFE (free cash flow to equity) if you want a direct equity value. Project net income, apply retention to get reinvestment, then FCFE = Net income - Reinvestment + Net borrowing.
• Translate ROE and retention into reinvestment: Reinvestment = Net income × retention. Using Company Name FY2025, reinvest = 1,200 × 0.80 = $960m, so FCFE next year ≈ 1,200 - 960 = $240m (before debt changes).
• Pick cost of equity realistically (e.g., CAPM-based). If cost of equity is 10% and your g from ROE is 16%, don't use Gordon terminal with g above r - instead use an exit multiple or reduce g to a long-term sustainable rate (GDP + productivity) like 2-4%.
• Cross-check with multiples: compare FY2025 P/E and P/B to peers, but adjust peers for one-offs and different leverage.

One-liner: use ROE to pick candidates; then DCF and multiples decide whether the price is fair or not.

One-liner: high ROE selects candidates; valuation and risk decide buys

You need decision rules that turn screening into a trade. High ROE narrows the field quickly; valuation, durability, and downside tests close the decision.

Concrete decision checklist:

• Run DuPont on FY2025 to see if ROE is operational (margin and turnover) or leverage-driven.
• Adjust FY2025 net income and equity for one-offs, buybacks, and impairments before comparing peers.
• Model three scenarios (base, upside, downside) using ROE-driven g in base, conservative g in downside (e.g., 40-60% of base), and higher margins in upside.
• Require a margin of safety: target price at least 20-30% below base-case fair value for new buys, tighten for larger positions.
• Size positions by conviction and tail risk; if ROE depends on leverage, reduce position size or require stronger covenants.

Action: run DuPont and adjusted ROE on three peers using FY2025 statements; you pick the top two names and hand them to Portfolio for valuation. One-liner: high ROE selects candidates; valuation and risk decide buys - defintely keep the stress tests tight.

Conclusion

Run DuPont on three peers

You're deciding where to allocate capital; start by running a DuPont decomposition for 3 comparable peers using FY2025 (fiscal-year 2025) numbers from each company's 10-K/10-Q.

Steps - practical, repeatable:

• Pull FY2025 TTM revenue, net income, average total assets, and average shareholders equity
• Compute components: net margin = net income / revenue
• Compute asset turnover = revenue / average total assets
• Compute equity multiplier = average total assets / average equity
• Multiply: ROE = net margin × asset turnover × equity multiplier

Here's the quick math: plug FY2025 reported totals into the three formulas above and multiply. What this estimate hides: off-balance-sheet leases, timing of capital expenditures, and large intra-year buybacks can skew averages - flag those for adjustment. One-liner: DuPont tells whether high ROE is from operations or leverage.

Adjust for one-offs and equity changes

Before ranking, clean the inputs so FY2025 ROEs reflect recurring business performance, not one-time events. Defintely document each adjustment in a single worksheet line.

Practical cleanup checklist:

• Remove one-time gains/losses from FY2025 net income
• Normalize tax effects (use normalized tax rate on adjusted pre-tax income)
• Adjust equity for large FY2025 share buybacks or issuances (use pro forma average equity)
• Strip goodwill impairments and major FX translation adjustments from equity where appropriate
• Note non-cash recurring items (stock comp, depreciation) separately

Best practices: keep original reported ROE and an adjusted ROE column, show each line-item adjustment and source (page/footnote in FY2025 filings). One-liner: headline ROE can be misleading without these cleanups.

Compare to industry median and hand off top names

Rank the 3 peers by adjusted FY2025 ROE, then benchmark against the industry median and leading peers. For capex-heavy firms, also compute FY2025 ROIC (return on invested capital) and prefer ROIC for comparisons.

Actionable ranking process:

• Compute industry median adjusted ROE using the same FY2025 adjustments
• Flag outliers driven by extreme leverage or accounting items
• Use a simple scorecard: adjusted ROE, ROIC (if needed), variance vs. median, one-off exposure
• Select top 2 names for deeper valuation work

Hand-off deliverable to Portfolio: one-page deck per name with (1) adjusted FY2025 ROE and DuPont lines, (2) list of FY2025 adjustments and numeric impact, (3) industry median and percentile rank, and (4) recommended next valuation step (DCF or multiples) with key risks. One-liner: high adjusted ROE selects candidates; valuation and risk decide buys.

Owner and next step: you review the adjusted FY2025 ROEs and deliver the top 2 names plus the supporting worksheet to Portfolio for valuation by Dec 5, 2025. Portfolio: begin DCF templates on receipt.