# Return on Equity Capital (ROEC) Ratio

In real sense, ordinary shareholders are the real owners of the company. They assume the highest risk in the company. (Preference share holders have a preference over ordinary shareholders in the payment of dividend as well as capital.

Preference share holders get a fixed rate of dividend irrespective of the quantum of profits of the company). The rate of dividends varies with the availability of profits in case of ordinary shares only. Thus ordinary shareholders are more interested in the profitability of a company and the performance of a company should be judged on the basis of return on equity capital of the company. Return on equity capital which is the relationship between profits of a company and its equity, can be calculated as follows:

## Formula of return on equity capital or common stock:

Formula of return on equity capital ratio is:

Return on Equity Capital = [(Net profit after tax − Preference dividend) / Equity share capital] × 100

## Components:

Equity share capital should be the total called-up value of equity shares. As the profit used for the calculations are the final profits available to equity shareholders as dividend, therefore the preference dividend and taxes are deducted in order to arrive at such profits.

**Example:**

**Calculate return on equity share capital from the following information:**

Equity share capital ($1): $1,000,000; 9% Preference share capital: $500,000; Taxation rate: 50% of net profit; Net profit before tax: $400,000.

**Calculation:**

**Return on Equity Capital (ROEC) ratio** = [(400,000 − 200,000 − 45,000) / 1000,000 )× 100]

= 15.5%

## Significance:

This ratio is more meaningful to the equity shareholders who are interested to know profits earned by the company and those profits which can be made available to pay dividends to them. Interpretation of the ratio is similar to the interpretation of return on shareholder’s investments and higher the ratio better is.

### You may also be interested in other articles from “financial statement analysis” chapter:

- Horizontal and Vertical Analysis
- Ratios Analysis
- Horizontal Analysis or Trend Analysis
- Trend Percentage
- Vertical Analysis
- Accounting Ratios Definition, Advantages, Classification and Limitations:
- Gross profit ratio
- Net profit ratio
- Operating ratio
- Expense ratio
- Return on shareholders investment or net worth
- Return on equity capital
- Return on capital employed (ROCE) Ratio
- Dividend yield ratio
- Dividend payout ratio
- Earnings Per Share (EPS) Ratio
- Price earning ratio
- Current ratio
- Liquid/Acid test/Quick ratio
- Inventory/Stock turnover ratio
- Debtors/Receivables turnover ratio
- Average collection period
- Creditors/Payable turnover ratio
- Working capital turnover ratio
- Fixed assets turnover ratio
- Over and under trading
- Debt-to-equity ratio
- Proprietary or Equity ratio
- Ratio of fixed assets to shareholders funds
- Ratio of current assets to shareholders funds
- Interest coverage ratio
- Capital gearing ratio
- Over and under capitalization
- Financial-Accounting- Ratios Formulas
- Limitations of Financial Statement Analysis

### Other Related Accounting Articles:

- Dividend Payout Ratio
- Fixed Assets Turnover Ratio
- Dividend Yield Ratio
- Return on Shareholders Investment or Net Worth Ratio
- Proprietary Ratio or Equity Ratio
- Current Assets to Proprietor’s Fund Ratio
- Financial Accounting Ratios & Formulas
- Debt Service Ratio or Interest Coverage Ratio
- Fixed Assets to Proprietor’s Fund Ratio
- Over trading and Under Trading

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