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L.2 · BEGINNER · 2 MIN

Return on Equity: Shareholder Efficiency

Return on Equity measures how much profit a company generates with shareholders' money. It is one of Warren Buffett's favorite metrics for identifying high-quality businesses.

Quiz · 5 questions ↓

Live data

AAPL — Return on Equity, Debt/Equity. Open AAPL on the Ledge to see current values.

Formula

ROE = Net Income / Shareholders' Equity

Key point

An ROE of 20% means the company earns $0.20 for every $1 of equity. Buffett targets companies with ROE consistently above 15%.

Key point

DuPont decomposition splits ROE into three drivers: ROE = Net Margin × Asset Turnover × Equity Multiplier (leverage). The same 25% ROE can come from a wide-moat compounder (high margin) or a thin-margin business levered to the hilt — these are not the same investment.

Key point

Watch out: high debt can artificially inflate ROE by shrinking the equity denominator. Always check Debt/Equity alongside ROE.

Try it

Find the **ROE** in any ticker's profitability metrics. Then check the **Debt/Equity** ratio. If D/E is above 2.0, the high ROE might be debt-driven.

Check-in

Two companies both have ROE of 25%. Company A has D/E of 0.5, Company B has D/E of 4.0. Which ROE is more impressive?

Key insight

ROE tells you how well management uses shareholder capital. But context matters: a 25% ROE funded by prudent operations is worth far more than one propped up by aggressive borrowing.

Check your understanding

Sit with the ideas.

Company X has ROE of 25% and Debt/Equity of 0.3. Company Y has ROE of 30% and Debt/Equity of 4.0. Which is the better business?

Why:
Continue this lesson in the appAdaptive practice · saves your progress · remediation when you miss
Try this in paper trading

Buy the cheaper of two competitors

Pick a sector you understand — coffee, banks, semis. Find two competitors. Compare their P/E ratios. Paper-buy the cheaper one and write a thesis explaining why the market might be wrong (or right) about the discount.

Open paper portfolio →

Practice mode — simulated trades, not investment advice.

Other lessons in this course.

  1. 01Profitability Ratios: How Much Does the Company Keep?
  2. 02Return on Equity: Shareholder Efficiency— reading now
  3. 03ROIC: The Truth About Business Quality
  4. 04Liquidity Ratios: Can They Pay Their Bills?
  5. 05Leverage Ratios: How Much Debt Is Too Much?
  6. 06Efficiency Ratios: How Well Does Management Run the Business?
  7. 07Cash Conversion Cycle: Who Funds Whom?
Continue this lesson in the app →See it on a real ticker →