What is Return on Net Assets (RONA)?
Return on net assets (RONA) is defined as the financial ratio of the net income earned by the business to the overall total of net fixed assets and net assets held by the business. The financial metric tries to analyze how much revenue a business is able to generate by employing specific assets for its business operations. It further helps in analyzing how effectively the assets are utilized and deployed by the management and company to derive economic value for the business.
Components of Return on Net Operating Assets
#1 – Physical Assets
Physical assets are defined as the fixed assets which the business employs in running business operations. These could be in the form of the production plant, machinery, business property, investment property, or equipment. These are non-current assets and can be found in the balance sheet section of the business.
#2 – Current Assets
Current Assets are the basic component of the networking capital of the business. These are composed of cash, marketable securities, and inventories. These are assets held by the business for the current financial year of the business.
#3 – Current Liabilities
The current liabilities are obligations that the business has to pay within 12 months or the current financial year of the business. They are composed of notes payable, account payable and current portion of long-term debt, accruals, etc. These are deducted from the current assets to arrive at the networking capital, which in turn can be utilized to calculate the return on net assets.
#4 – Net Income
Net income is defined as the residual income earned by the business. It is the end value a business gets when all the operational overheads, the cost of running a business are deducted from the revenue generated by the business. It can be found in the income statement section of the business.
Return on Net Assets Formula
The return on net operating assets (Rona) formula can be determined using the time value of money relationship as described below:
- The Physical Asset is represented by PA.
- The Current Assets are represented by CA.
- The Current Liabilities are represented by CL.
Below are the examples of return on net assets (RONA).
Suppose the company earns a net income of $560,000 during its business operations. The business additionally has a net working capital of $200,000 and holds physical assets worth $1,000,000.
RONA can be determined as follows: –
Therefore, the company has generated a RONA of 0.467 from its business operations. This further means that the business is unable to generate revenues properly and is delivering fair performance.
Suppose the company earns a net income of $570,290 during its business operations. The business additionally has net working capital of $100,000 and holds physical assets worth $600,000.
RONA would be determined as follows: –
Therefore, the company has generated RONA of 0.8147 from its business operations. This further means that the business is able to generate revenues properly and is delivering good performance as well as favorable returns for its owners.
A business for its current financial year generated a return on net assets as 0.867. Therefore, it could be inferred that the business employed its physical assets and the net working capital efficiently to drive value and net income of 87 cents approximately. It further means that the net income generated by the business equals 87% of the overall combined value of physical assets and the networking capital of the business.
- It is useful for the manufacturing business as it helps them to collect and maintain information on sales, assets, and operational costs at the plant level.
- It helps the investor know whether the business is a good investment option or not.
- A high ratio always signifies that the company is highly efficient in driving good business.
- Since the metric is derived using fixed assets. Therefore, the method of depreciation employed by the business in determining the net fixed assets affects the comprehensive determination of return on net assets.
- A wrong depreciation method can severely skew the profitability ratio or RONA.
- If the business earns loss from unusual and unpredictable events, then also it can skew the return on operating assets metric. Since such losses would be adjusted to the net income and can, therefore, deliver an adverse impact on the value of the ratio.
- It does not account for intangible assets as it is eliminated from the calculations.
- It helps the business determine its ability to create and derive value creation for the longer-term horizon.
- It helps the business determine how well they utilize physical assets and net assets.
- A high RONA is generally regarded as a favorable metric for the business.
- It is one of the comprehensive measures wherein net income is compared with the physical assets of the business.
- If a business incurs significant one-time losses, then it can be adjusted to the net income earned by the business to derive the value of the return on net assets (RONA).
Return on Net Assets is regarded as the performance metric, which compares the net income generated by the business over the physical assets utilized by the business. It helps analysts and business knowledge and determines whether the company is able to drive an efficient business operation to generate good economic value.
The investors utilize this ratio to determine whether they would be able to earn good returns or not if they were to invest their money in the business.
This article has been a guide to Return on Net Assets. Here we discuss components, the formula of return on net assets (RONA) along with examples, advantages & disadvantages. You can learn more financial analysis from the following articles –