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How to Calculate Stockholder Equity Using Profitability Ratio

Original post by Bryan Keythman of Demand Media

A profitability ratio, such as return on equity (ROE), measures a company's efficiency at generating profits. Stockholders' equity is the residual value of a company's assets if it were to pay off its debts. If you know a company's return on equity, you can calculate stockholders' equity. As a shareholder, you typically want a company to have more stockholders' equity, which provides a financial cushion if business declines. A larger amount of stockholders' equity compared to debt gives shareholders a larger claim on the company's assets and earnings.

Step 1

Find a company's income statements for the four most recent quarters in its quarterly reports and annual report, which you can obtain from the "investor relations" section of the company's website. A company includes its income statements for the first quarter through the third quarter in its quarterly reports and includes its fourth-quarter income statement in its annual report.

Step 2

Find the amount of the company's net income on its income statement for each of the last four quarters. For example, assume a company's net income for the last four quarters was $4,000, $5,000, $6,000 and $5,000.

Step 3

Calculate the sum of the company's net income for the last four quarters to determine its trailing 12-month net income. In this example, add $4,000, $5,000, $6,000 and $5,000 to get $20,000 in trailing 12-month net income.

Step 4

Visit any financial website that provides stock information, such as MSN Money, Yahoo Finance or AOL DailyFinance, and find the company's return on equity in the company's stock quote section. ROE is widely available for all public companies. In this example, assume the company's ROE is 20 percent, or 0.2.

Step 5

Divide the company's trailing 12-month net income by its ROE to calculate its stockholders' equity. Continuing the example, divide $20,000 in trailing 12-month net income by an ROE of 0.2 to get $100,000 in stockholders' equity.

                   

Tips & Warnings

  • Monitor a company's stockholders' equity over time. A consistently decreasing amount of stockholders' equity may signal financial trouble, while a consistently increasing amount may signal growth.

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About the Author

Bryan Keythman has performed stock investment research and writing for a consulting firm since 2008. He also has prior experience sourcing and underwriting commercial real-estate investment and development opportunities for a commercial real-estate developer. Keythman holds a Bachelor of Science in finance.

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