How do you calculate Return on Equity (ROE)?

Return on Equity (ROE) is a key financial metric used to evaluate a company's efficiency at generating profits with the equity invested by shareholders. The correct method to calculate ROE involves understanding its components.

ROE can be expressed through the formula that breaks it down into three crucial ratios commonly known as the DuPont identity: net profit margin, asset turnover, and equity multiplier. Specifically, the formula is:

ROE = (Net Profit / Sales) × (Sales / Assets) × (Assets / Equity)

This combination essentially states that ROE equals net profit margin multiplied by asset turnover (which measures how efficiently a company uses its assets to generate sales), further multiplied by the equity multiplier (which indicates the degree of financial leverage a company is using).

Therefore, option C effectively captures this relationship by stating that ROE is calculated by multiplying the net profit margin by the asset turnover rate and then by the equity multiplier. This method not only highlights the profitability in relation to sales but also considers how well the assets are utilized and how much debt versus equity is used to finance those assets, providing a comprehensive view of financial performance.

By using this formula, businesses and investors can better understand how effectively a company is converting equity into actual profit, making it a