Ratios

Financial ratios

A number on its own means little: is $72,000 of profit a lot? It depends on the size of the business. A ratio divides one number by another so you can compare companies of any size, and the same company over time.

👴 In one sentence Ratios turn "big numbers" into "out of every dollar…" so anyone can compare a bakery with a giant.

All examples below use Rat Bakery's three statements. The arrow tells you what each result means.

1. Profitability: does the business make good money?

Profitability ratios Rat Bakery 2025
Gross margin = 300,000 ÷ 500,00060.0%
Of every $1 of sales, 60¢ is left after ingredients. Shows pricing power of the product.
Operating margin = 100,000 ÷ 500,00020.0%
Profit from operations per $1 of sales. Shows how efficiently the whole business is run.
Net margin = 72,000 ÷ 500,00014.4%
What the owners keep from each $1 of sales, after interest and taxes.
ROE = 72,000 ÷ 175,00041.1%
Return on equity: profit per $1 of the owners' money. Like the interest rate the owners "earn" on their stake.
ROA = 72,000 ÷ 300,00024.0%
Return on assets: profit per $1 of everything the company owns. Banks typically have a low ROA (~1%) because they hold huge assets.
ROIC = 100,000 × (1 − 20%) ÷ 215,00037.2%
Return on invested capital: after-tax operating profit ÷ (debt + equity − cash). Many analysts' favourite: it ignores how the company is financed.
💡 Why ROE can fool you Borrowing more makes equity smaller and ROE bigger, without the business getting any better. That's why we always look at ROE together with debt — and at ROIC.

2. Liquidity: can it pay the bills due this year?

Liquidity ratios Rat Bakery 2025
Current ratio = 95,000 ÷ 40,0002.38
$2.38 of short-term assets for every $1 due within a year. Below 1 means short-term bills exceed short-term assets.
Quick ratio = (95,000 − 15,000) ÷ 40,0002.00
Same, but without inventory (flour can't always be sold quickly). A stricter test.
Cash ratio = 60,000 ÷ 40,0001.50
Only cash counts. The strictest test: could we pay everything today?

3. Indebtedness & solvency: how much does it owe, and is that safe?

Indebtedness measures how much of the company is financed by borrowing. Solvency asks whether it can keep paying its debts over the long run.

Debt & solvency ratios Rat Bakery 2025
Debt / equity = 100,000 ÷ 175,0000.57
57¢ of bank debt for each $1 of owners' money. Higher = more borrowed money, more risk when times are hard.
Debt / assets = 100,000 ÷ 300,00033.3%
One third of what the bakery owns was paid with loans.
Equity ratio = 175,000 ÷ 300,00058.3%
The share of assets financed by the owners. The mirror image of indebtedness.
Net debt / EBITDA = (100,000 − 60,000) ÷ 130,0000.31x
How many years of EBITDA it would take to repay all debt, net of cash. Lenders watch this one closely; many loan agreements set limits around 3x.
Interest coverage = 100,000 ÷ 10,00010.0x
Operating profit covers the interest bill 10 times over. Below ~1.5x, interest eats most of the profit.

4. Efficiency & cash: how well are resources used?

Efficiency & cash ratios Rat Bakery 2025
Asset turnover = 500,000 ÷ 300,0001.67x
Each $1 of assets generates $1.67 of sales. Supermarkets turn assets fast; power plants slowly.
FCF margin = 58,000 ÷ 500,00011.6%
Free cash from each $1 of sales.
Cash conversion = 58,000 ÷ 72,00081%
How much of the profit became free cash. Consistently far below 100% deserves a closer look.
Payout ratio = 28,800 ÷ 72,00040%
Share of profit paid as dividends.

The golden rules of ratios

  1. Compare within the same industry. A 3% net margin is normal for a supermarket and very low for a software company.
  2. Look at the trend, not one year. Ten years show you good times and bad times. Our analysis pages show all ten.
  3. No single ratio decides anything. Combine profitability, debt and cash to get the whole picture.
  4. Check the inputs. One-off gains or losses distort a single year's ratios.

The company analysis calculates every ratio on this page automatically, for 10 years, for any listed company.

✏️ Check yourself: Company A has ROE 25% and debt/equity 4.0. Company B has ROE 18% and debt/equity 0.2. Which business is more profitable on its capital?
Show the answer

You can't tell from ROE alone. A's high ROE is largely produced by debt (small equity). Check ROIC or ROA: B may well earn more on the total capital it uses — with much less risk.