What does 'return on equity' (ROE) measure?

Return on equity (ROE) is a key financial metric that measures the profitability of a company relative to the equity held by its shareholders. Specifically, it is calculated by dividing the net income of the company by the shareholders' equity. This ratio provides insight into how efficiently a company is using the equity invested by its shareholders to generate profits.

A high ROE indicates that a company is effective at turning equity financing into profits, suggesting strong financial performance and potentially higher returns for investors. Conversely, a low ROE may signal inefficiencies or challenges in profit generation relative to the equity available.

Understanding ROE is crucial for investors, as it helps in evaluating a company's ability to generate returns on their invested capital, making it an essential metric for assessing overall company health and investment potential.