Question

When calculating return on net operating assets, analysts sometimes make adjustments to the net operating asset base used in the denominator of the ratio. Three possible adjustments are listed below. Explain what these adjustments are, and discuss the merits of these adjustments.

1. Non-operating asset adjustment
2. Intangible asset adjustment
3. Accumulated depreciation adjustment

Answer 1

Non operating assets adjustments:

Non operating assets are the assets which do not considered to be part of company's core operations. Means these do not take part in the core operations of company, means these funds are invested outside the company like investments in marketable securities etc.

These non operating assets are deducted at the time of calculation of return on operating assets, because the company want to know the return geneated from core activities of the company.

Intangible asset adjustment:

Intangible assets like goodwill, patent etc. are also deducted for calculation of return on operating assets because the value of intangible assets keep fluctuating due to the fact that these are periodically reviewed for impairment and written down if necessary. So, inclusion of intangible assets would not show the true value of return on operating assets.

Accumulated depreciation adjustment

The adjustment of accumulated depreciation is made by adding it back to the net fixed assets because if only the net assets would be taken then the return on operating assets would definately increase and which would not be the true value because although the assets keep decreasing every year by the value of depreciation but on the other hand with every passing year the maintenance repair expenses also increases , hence for true value of return on operating assets , the accumulated depreciation is added back to net fixed assets.