Profitability Metrics
Gross Profit Margin
(Revenue - Cost of Goods Sold) / Revenue × 100%
Measures the percentage of revenue remaining after deducting the direct costs of producing goods or services. A higher gross margin indicates better efficiency in production and pricing power.
Why It Matters:
Essential for understanding core business profitability before operating expenses. Used to compare efficiency across time periods and against competitors. Helps identify pricing strategy effectiveness and cost control.
Operating Margin (EBIT Margin)
Operating Income (EBIT) / Revenue × 100%
Shows the percentage of revenue left after paying for variable costs and fixed operating expenses, but before interest and taxes. Reflects operational efficiency and management effectiveness.
Why It Matters:
Indicates how well a company controls costs and generates profit from operations. Useful for comparing companies with different capital structures since it excludes financing costs.
Net Profit Margin
Net Income / Revenue × 100%
The bottom-line profitability metric showing what percentage of revenue translates to net profit after all expenses, including taxes and interest.
Why It Matters:
The ultimate measure of overall profitability. Shows how effectively a company converts revenue into actual profit available to shareholders.
EBITDA
Earnings Before Interest, Taxes, Depreciation, and Amortization
A proxy for operating cash flow that excludes non-cash expenses and financing costs. Often used in valuation and to compare companies with different capital structures or tax situations.
Why It Matters:
Useful for M&A analysis and comparing operational performance across companies. Shows cash generation capability before capital structure impacts.
Return on Assets (ROA)
Net Income / Total Assets × 100%
Measures how efficiently a company uses its assets to generate profit. Shows management effectiveness in deploying company resources.
Why It Matters:
Helps evaluate asset-intensive businesses and compare efficiency across companies in the same industry.
Return on Equity (ROE)
Net Income / Shareholders' Equity × 100%
Shows how much profit a company generates with the money shareholders have invested. A key metric for equity investors evaluating returns.
Why It Matters:
Critical for investors comparing investment opportunities. Indicates management's ability to generate returns on equity capital.
Liquidity Metrics
Current Ratio
Current Assets / Current Liabilities
Measures a company's ability to pay short-term obligations with short-term assets. A ratio above 1.0 indicates the company can cover its short-term liabilities.
Why It Matters:
Essential for assessing short-term financial health and liquidity risk. Lenders and creditors closely monitor this metric.
Quick Ratio (Acid-Test)
(Current Assets - Inventory) / Current Liabilities
A more conservative liquidity measure that excludes inventory, which may not be quickly convertible to cash. Shows ability to meet short-term obligations with liquid assets.
Why It Matters:
Better indicator of immediate liquidity than current ratio, especially important for companies with slow-moving inventory.
Cash Ratio
(Cash + Cash Equivalents) / Current Liabilities
The most conservative liquidity ratio, measuring the company's ability to pay off short-term liabilities with only cash and cash equivalents.
Why It Matters:
Shows absolute liquidity position and ability to handle unexpected cash demands.
Working Capital
Current Assets - Current Liabilities
The dollar amount of short-term assets available after paying short-term liabilities. Represents operational liquidity available to the business.
Why It Matters:
Critical for day-to-day operations. Positive working capital is needed to fund growth and handle seasonal fluctuations.
Efficiency Metrics
Days Sales Outstanding (DSO)
(Accounts Receivable / Revenue) × 365
Average number of days it takes to collect payment after a sale. Lower DSO indicates faster collection and better cash flow.
Why It Matters:
Key metric for cash flow management. High DSO can indicate collection problems or lenient credit terms.
Days Inventory Outstanding (DIO)
(Inventory / Cost of Goods Sold) × 365
Average number of days inventory is held before being sold. Lower DIO generally indicates better inventory management.
Why It Matters:
Important for cash flow and working capital management. Excessive inventory ties up cash and increases holding costs.
Days Payable Outstanding (DPO)
(Accounts Payable / Cost of Goods Sold) × 365
Average number of days a company takes to pay its suppliers. Higher DPO means the company is using supplier credit longer.
Why It Matters:
Helps manage cash flow by understanding payment obligations. Balance between maintaining good supplier relationships and optimizing cash.
Cash Conversion Cycle (CCC)
DSO + DIO - DPO
Measures how long cash is tied up in operations before being converted back to cash through sales. Lower is better for cash flow.
Why It Matters:
Comprehensive metric showing overall operational efficiency and working capital management. Critical for understanding cash needs.
Asset Turnover
Revenue / Total Assets
Measures how efficiently a company uses its assets to generate revenue. Higher ratio indicates better asset utilization.
Why It Matters:
Helps evaluate capital intensity and operational efficiency. Particularly useful for comparing companies within the same industry.
Leverage & Solvency Metrics
Debt-to-Equity Ratio
Total Debt / Total Equity
Shows the proportion of debt financing relative to equity financing. Higher ratios indicate more leverage and financial risk.
Why It Matters:
Key indicator of financial risk and capital structure. Important for lenders and investors assessing bankruptcy risk.
Debt-to-Assets Ratio
Total Debt / Total Assets
Shows what percentage of assets are financed with debt. Lower ratios indicate less financial risk.
Why It Matters:
Helps assess financial stability and borrowing capacity. Important for credit analysis.
Interest Coverage Ratio
EBIT / Interest Expense
Measures how many times a company can cover its interest payments with operating earnings. Higher is safer.
Why It Matters:
Critical for assessing ability to service debt. Ratios below 2.5 may indicate financial distress risk.
Growth Metrics
Revenue Growth Rate
(Current Period Revenue - Prior Period Revenue) / Prior Period Revenue × 100%
Measures the percentage increase in revenue compared to a previous period. Indicates business expansion and market traction.
Why It Matters:
Key indicator of business momentum and market demand. Used by investors to assess growth potential and company trajectory.
Earnings Per Share (EPS) Growth
(Current EPS - Prior EPS) / Prior EPS × 100%
Measures the growth rate of earnings per share over time. Important metric for equity valuation.
Why It Matters:
Directly impacts stock price and shareholder value. Shows profitability growth on a per-share basis.