Return on equity (ROE) measures the ability of a firm to generate profits from its what?

• A. It measures the ability to generate profits from shareholder investments.
• B. It measures the debt to equity ratio.
• C. It shows the return on assets.
• D. It shows the cash conversion cycle.

Answer: (A)

Return on equity tells you how much profit is earned for each unit of shareholders’ money invested in the business. It is calculated as net income divided by average shareholders’ equity, so it directly links profitability to the funds supplied by owners. This shows the efficiency with which management uses equity financing to generate profits for shareholders.

The other metrics measure something different: debt-to-equity ratio looks at financing mix and leverage, not profitability per se; return on assets compares profit to all assets (both debt and equity); and the cash conversion cycle analyzes liquidity and how quickly the company turns inventory into cash.