What Is Return on Net Assets (RONA)?
I'm going to explain Return on Net Assets (RONA) to you directly. It's a financial performance measure you calculate by dividing net profit by the sum of fixed assets and net working capital. Net profit is the same as net income.
This RONA ratio tells you how effectively a company and its management are using assets to create economic value. If the ratio is high, it means management is getting more earnings out of every dollar in assets. You can also use RONA to see how a company stacks up against others in its industry.
Key Takeaways
- RONA compares a firm's net profits to its net assets to show how well it utilizes those assets to generate earnings.
- A high RONA ratio indicates that management is maximizing the use of the company's assets.
- Net income and fixed assets can be adjusted for unusual or non-recurring items to gain a normalized ratio result.
The Formula for Return on Net Assets
Here's the formula you need: RONA = Net profit / (Fixed assets + NWC), where NWC = Current Assets - Current Liabilities. That's Return on Net Assets broken down simply.
How to Calculate RONA
You start with three components: net income, fixed assets, and net working capital. Net income comes from the income statement—it's revenue minus expenses like those for making or selling products, operating costs such as salaries and utilities, interest on debt, and everything else.
Fixed assets are tangible items used in production, like real estate and machinery. They don't include goodwill or other intangibles on the balance sheet. For net working capital, subtract current liabilities from current assets. Remember, long-term liabilities aren't part of this; they're not subtracted in the denominator for RONA.
Sometimes, you might adjust the inputs to normalize results, especially when comparing companies. For instance, fixed assets could be skewed by accelerated depreciation, where up to 40% of an asset's value is written off in the first year.
Also, adjust out large one-time losses or unusual income from net income. Analysts often remove intangible assets like goodwill from the calculation because it's usually from acquisitions, not from assets bought for production like new equipment.
What Does RONA Tell You?
RONA compares a firm's net income to its assets, helping you determine how well the company generates profit from those assets. The higher the earnings relative to assets, the more effectively the company deploys them. This metric is crucial for capital-intensive companies where fixed assets are the main component.
In the manufacturing sector, which is capital-intensive, you can calculate RONA as: Return on Net Assets = (Plant Revenue - Costs) / Net Assets.
Interpreting Return on Net Assets
A higher RONA means better profit performance for the company. It shows the company is using its assets and working capital efficiently, but remember, no single ratio gives the full picture of financial health. RONA is one of many tools you use to evaluate that.
If you're looking at long-term value creation, add back extraordinary expenses to net income. For example, if a company has $10 million net income but a $1 million one-time expense, adjust to $11 million. This gives you an idea of potential RONA next year without those expenses.
Example of RONA
Let's say a company has $1 billion in revenue and $800 million in total expenses including taxes, so net income is $200 million. Current assets are $400 million, current liabilities $200 million, making net working capital $200 million.
Fixed assets are $800 million. Add that to net working capital for $1 billion in the denominator. Divide $200 million net income by $1 billion, and you get a 20% RONA.
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