Return on Equity Formula: How to Calculate ROE (With Examples)

Return on equity is one of the most quoted numbers in finance, yet the formula behind it is often used in a way that can quietly mislead. A single percentage can obscure whether a company is genuinely efficient or just heavily leveraged.

Average ROE for S&P 500 companies: 15–20% ·
Standard ROE formula: Net Income / Average Shareholders’ Equity ·
DuPont 3-step formula: Net Profit Margin × Asset Turnover × Equity Multiplier ·
Example ROE calculation: $100,000 net income / $500,000 equity = 20% ·
Minimum ROE threshold for value investors (Buffett): 15% consistently

The pattern in these benchmarks reveals that what counts as “good” ROE depends entirely on industry context and capital structure.

What Is the Return on Equity Formula?

The standard ROE formula

• ROE = Net Income ÷ Shareholders’ Equity (Corporate Finance Institute (specialist finance education))
• Many professional references define ROE using net income divided by average shareholders’ equity over the period, instead of a single end-of-period equity figure (Wall Street Prep (professional finance training))
• ROE measures how efficiently a company uses equity to generate profit

What is shareholders’ equity?

• Shareholders’ equity = Total Assets – Total Liabilities (Wall Street Prep (professional finance training))
• An equivalent formulation is paid-in capital plus retained earnings plus accumulated other comprehensive income minus treasury stock (Wall Street Prep (professional finance training))
• The standard balance sheet equation is Assets = Liabilities + Shareholders’ Equity (Investopedia (financial education publisher))

Why net income is used

• Net income for ROE is the company’s total profit after all expenses, interest, and taxes, taken from the income statement (BILL (business financial platform))
• It represents the earnings available to common shareholders

How Do You Calculate Return on Equity?

Step 1: Find net income from the income statement

• Net income is the profit after all expenses and taxes (BILL (business financial platform))
• It appears on the income statement as the bottom line

Step 2: Calculate average shareholders’ equity from the balance sheet

• Average equity = (Beginning equity + Ending equity) / 2 (SuperfastCPA (accounting education))
• Harvard Business School Online explicitly recommends using average total equity when computing ROE if equity figures are relatively linear over time (Harvard Business School Online (accredited business education))

Step 3: Divide and express as percentage

• To calculate a simple, single-period ROE, divide net income by shareholders’ equity and multiply by 100 (BILL (business financial platform))
• Example: Net income of $200,000, average equity of $1,000,000 → ROE = 20%
• In one illustrative example, if net income is $500,000 and shareholders’ equity is $2,500,000, ROE equals (500,000 ÷ 2,500,000) × 100 = 20% (BILL (business financial platform))
• Another example demonstrates that when net income is $50,000 and shareholders’ equity is $400,000, the return on equity ratio is 12.5% (Business Development Bank of Canada (Canadian SME lender))

What Is the 3-Step DuPont ROE Formula?

Net profit margin component

• Net profit margin = Net Income / Revenue (Harvard Business School Online (accredited business education))
• This measures how much profit each dollar of revenue generates

Asset turnover component

• Asset turnover = Revenue / Average Total Assets (Harvard Business School Online (accredited business education))
• This measures how efficiently the company uses its assets to generate sales

Equity multiplier component

• Equity multiplier = Average Total Assets / Average Shareholders’ Equity (Harvard Business School Online (accredited business education))
• This measures financial leverage — how much debt the company uses
• DuPont ROE = Net Profit Margin × Asset Turnover × Equity Multiplier (Harvard Business School Online (accredited business education))

What Do Different ROE Values Mean?

What does a 20% ROE mean?

• ROE above 20% is generally considered excellent (Investopedia (financial education publisher))
• It means the company generates $0.20 of profit for every dollar of equity
• Consistently high ROE can indicate a competitive advantage

What does a 15% ROE mean?

• ROE of 15% is above average for S&P 500 companies
• Cube Software notes that an ROE of 15% means every dollar of equity generates 15 cents in profit (Cube Software (financial planning platform))

What is considered a good ROE ratio?

• Good ROE varies by industry; capital-intensive industries have lower ROE (Investopedia (financial education publisher))
• High ROE is generally interpreted as a sign that the company is efficiently using shareholders’ equity to generate profits, but ROE should be compared to peers in the same industry (Investopedia (financial education publisher))
• ROE can be inflated by high financial leverage, because debt financing can reduce the equity base; therefore, analysts often review both ROE and leverage ratios together (Harvard Business School Online (accredited business education))

What Is the 7% Rule in Stocks?

Origin of the rule

• The 7% rule is often used by dividend investors as a yield threshold
• It is not a direct ROE rule; it refers to expected annual returns from stocks
• Some interpret it as a minimum ROE for value investing

How it relates to ROE

• Warren Buffett has stated that ROE is one of the key metrics he uses to evaluate companies, preferring those with consistently high ROE (from his annual shareholder letters)
• A company with a 7% ROE is generating only $0.07 per dollar of equity — below the S&P 500 average

Limitations of the rule

• The 7% rule is not a universally accepted financial standard
• The exact threshold for a ‘good’ ROE is subjective and depends on industry and growth stage

Confirmed Facts vs. What’s Unclear

“Return on equity (ROE) is a measure of a company’s financial performance. It is calculated by dividing net income by shareholders’ equity.”

— Investopedia editorial team, Investopedia (financial education publisher)

“Return on Equity (ROE) is the measure of a company’s annual return (net income) divided by the value of its total shareholders’ equity, expressed as a percentage.”

— Corporate Finance Institute, Corporate Finance Institute (specialist finance education)

The return on equity formula is a powerful tool, but only when used with context. A single ROE number without industry comparison, without the DuPont breakdown, and without checking whether average equity was used, can lead an investor astray. For the value investor looking at a company with a 15% ROE, the question is not whether 15% is good — it is whether that 15% comes from operational efficiency or from leverage. The difference determines whether the investment is a compounder or a time bomb.

Investors often compare the return on equity formula with the debt-to-equity ratio guide to gauge financial leverage.

Frequently asked questions