Metric Explainer: ROE (Return on Equity)
ROE measures how much net profit a company earns for every rupee of shareholder equity. It tells equity investors specifically how well their money is being...
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Simple definition
ROE measures how much net profit a company earns for every rupee of shareholder equity. It tells equity investors specifically how well their money is being used.
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"ROE = shareholders ke paiso pe kitna return. Simple."
Why it matters
- ROE is the denominator in PB valuation — PB is only justified when ROE exceeds cost of equity
- ROE drives long-term share price compounding (high ROE + retention = faster book value growth)
- DuPont decomposition of ROE reveals quality of returns
Formula
ROE = (Net Profit (PAT)) / (Average Shareholder's Equity) × 100
How to calculate
| Step | Source | Example (HDFC Bank) |
|---|---|---|
| 1. Net Profit (PAT) | P&L | ₹44,000 Cr |
| 2. Shareholders' Equity (start) | Balance Sheet (prev year) | ₹2,50,000 Cr |
| 3. Shareholders' Equity (end) | Balance Sheet (current year) | ₹2,90,000 Cr |
| 4. Average Equity | (Start + End) ÷ 2 | ₹2,70,000 Cr |
| 5. ROE | PAT ÷ Avg Equity | 16.3% |
Good range
| ROE Level | Interpretation |
|---|---|
| > 20% | Excellent — pricing power, operational efficiency, or leverage |
| 15–20% | Good — above cost of equity |
| 10–15% | Average — barely earning cost of equity |
| < 10% | Poor — destroying shareholder value |
The critical difference: ROE vs ROCE
| Feature | ROE | ROCE |
|---|---|---|
| Numerator | PAT (after interest + tax) | EBIT (before interest + tax) |
| Denominator | Equity only | Equity + Debt = Capital Employed |
| Affected by leverage? | Yes — debt inflates ROE | No — capital-structure neutral |
| Best for | Banks, NBFCs, equity investors | All other companies |
The leverage illusion
A company with 50% ROE might achieve it through 5x leverage. If business slows, that leverage turns ROE negative fast. Always DuPont-decompose ROE.
DuPont decomposition
ROE = PAT / Revenue × Revenue / Assets × Assets / Equity
= Margin × Turnover × Leverage
The quality spectrum:
- Best: High margin + high turnover + low leverage (TCS, Asian Paints)
- Good: High margin + moderate leverage (Bajaj Finance — leverage is the business model)
- Risky: Low margin + high leverage (cyclical industrials with debt)
Red flags
- ROE driven primarily by increasing leverage (Equity Multiplier > 3x for non-financials)
- ROE declining while company claims "growth"
- One-time gains inflating ROE in a specific year
- ROE above 25% but ROCE below 15% — check debt levels
Related metrics
- ROCE — Capital-structure neutral return metric
- Concept: DuPont Analysis — Full ROE decomposition lesson
- Debt/Equity — How leverage affects ROE