Description: This measure varies somewhat from the preceding return on assets employed, because only those assets actively used to create revenue are used in the denominator. This focuses management attention on the amount of assets actually required to run the business, so that it has a theoretical targeted asset level to achieve. A typical result of this measurement is an ongoing campaign to eliminate unnecessary assets.
Formula: Divide net income by the gross valuation of all assets used to create revenue. One can also use an asset valuation that is net of depreciation, but the type of depreciation calculation used can skew the net amount significantly, since some accelerated depreciation methods can eliminate as much as 40% of an asset’s value in its first full year of usage. Also, if a significant proportion of net income is comprised of income or losses due to extraordinary items that have nothing to do with ongoing revenue creation, then the impact of these items should be eliminated from net income for the purposes of the calculation. The formula is as follows:
Net Income
Assets Used to Create Revenue
Cautions: The specific assets included in the denominator can be subject to a great deal of interpretation, since managers will realize that any assets not included in it will eventually become targets for elimination. Consequently, the list of assets used should be carefully reviewed, preferably with the industrial engineering staff, to ensure that each item has a direct role in the production of revenue.