Return on equity (ROE) tries to reveal the profitability of a company from an owner's perspective. This figure thus tries to reveal how much profit a company generates with the money shareholders have invested.
ROE is calculated this way:
ROE = Net Income/Shareholder's Equity
Like other figures measuring profitability in companies such as Return on Investment (ROI), Return on Equity can be used to compare companies. Investors might be compelled to invest in companies that show a high ROE, because this might signal that the company is able to generate great profits from the money invested by shareholders.
This figure is however susceptible to errors. The numerator, net income, may be manipulated by companies, so that ROE seems greater. Therefore, investors should use this figure with caution, when deciding on in which company to invest.