methods of improving investor return
10.2 Analysis of Published Accounts – Investment Ratios 📈
Investment ratios help investors decide whether a company is a good place to put their money. They show how well a firm uses its assets to generate profit and how much return shareholders can expect. Think of it as a financial “health check” for a business.
Key Investment Ratios
| Ratio | Formula | What It Tells You |
|---|---|---|
| Return on Assets (ROA) | $ \displaystyle \text{ROA} = \frac{\text{Net Income}}{\text{Total Assets}} $ | Shows how efficiently a company turns its assets into profit. |
| Return on Equity (ROE) | $ \displaystyle \text{ROE} = \frac{\text{Net Income}}{\text{Shareholders' Equity}} $ | Measures how much profit a company generates with the money invested by shareholders. |
| Dividend Yield | $ \displaystyle \text{Dividend Yield} = \frac{\text{Dividend per Share}}{\text{Share Price}} $ | Shows the cash return investors receive relative to the share price. |
| Earnings Per Share (EPS) | $ \displaystyle \text{EPS} = \frac{\text{Net Income} - \text{Dividends on Preferred Stock}}{\text{Average Outstanding Shares}} $ | Indicates how much profit is allocated to each share of common stock. |
How to Improve Investor Return 💡
Improving investor return is like upgrading a bicycle: you can make it faster, more efficient, and more fun to ride. Here are the main ways companies can boost returns:
- Increase Profitability – Cut costs, raise prices, or launch new products. Think of it as adding extra toppings to a pizza that customers love.
- Reduce Cost of Capital – Lower interest rates on loans or issue cheaper equity. It’s like getting a better deal on a car loan.
- Improve Asset Utilisation – Use existing assets more effectively (e.g., faster inventory turnover). Imagine a factory that can produce more toys with the same machines.
- Enhance Dividend Policy – Offer attractive dividends or buy back shares to increase shareholder value.
- Strategic Growth – Expand into new markets or acquire competitors. It’s like moving from a small lemonade stand to a full‑fledged juice bar.
Exam Tips for 10.2 📚
Remember:
- Show all calculations clearly – teachers love to see your working.
- Use the correct formula names and units.
- Explain what each ratio tells you in plain English.
- When asked to suggest improvements, link the ratio to a specific action (e.g., low ROA → improve asset utilisation).
- Practice with past exam questions to get comfortable with the format.
Practice Question 🚀
Company X has a net income of £120,000, total assets of £600,000, and shareholders' equity of £300,000. Calculate:
- Return on Assets (ROA)
- Return on Equity (ROE)
Then, suggest one way the company could improve its ROE.
Answer:
1. ROA = £120,000 ÷ £600,000 = 0.20 or 20%
2. ROE = £120,000 ÷ £300,000 = 0.40 or 40%
Improvement suggestion: Increase asset utilisation by reducing inventory levels, which would raise ROA and, consequently, ROE.
Revision
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