Which of the following best describes how Return on Assets (ROA) is calculated?

• A. ROA = \frac{\text{Total Assets}}{\text{Total Equity}}
• B. ROA = \frac{\text{Net Income}}{\text{Total Liabilities}}
• C. ROA = \frac{\text{Net Income}}{\text{Total Assets}}
• D. ROA = \frac{\text{Total Assets}}{\text{Net Income}}

Answer: (C)

Verified step by step guidance

1. Step 1: Understand the concept of Return on Assets (ROA). ROA is a financial ratio that measures how efficiently a company uses its assets to generate profit. It is expressed as a percentage and is a key indicator of profitability.
2. Step 2: Identify the correct formula for ROA. The formula is ROA = \( \frac{\text{Net Income}}{\text{Total Assets}} \). This formula shows the relationship between the net income (profit) and the total assets of the company.
3. Step 3: Break down the components of the formula. Net Income refers to the profit after all expenses, taxes, and costs have been deducted. Total Assets represent all the resources owned by the company, including cash, inventory, property, and equipment.
4. Step 4: Analyze why the other formulas provided are incorrect. For example, \( \frac{\text{Total Assets}}{\text{Total Equity}} \) measures the financial leverage of a company, not its profitability. Similarly, \( \frac{\text{Net Income}}{\text{Total Liabilities}} \) does not accurately reflect asset efficiency.
5. Step 5: Apply the correct formula to calculate ROA in practice. To find ROA, divide the Net Income by the Total Assets and multiply the result by 100 to express it as a percentage. This calculation helps assess how effectively a company is utilizing its assets to generate earnings.