Lesson 6 of 8 · 13 min
Profitability ratios
Profitability ratios measure the return a company earns, either on each unit of sales (margins) or on the capital invested in it (returns on assets, capital and equity).
In short
- Return on sales: gross profit margin, operating profit margin, pretax margin and net profit margin, each a profit subtotal ÷ revenue.
- Return on investment: operating ROA (operating income ÷ average total assets), ROA (net income ÷ average total assets), ROIC, ROE and return on common equity.
- Match the return to the capital: pre-interest returns over all capital; net income over equity; net income minus preferred dividends over common equity.
- ROIC = EBIT × (1 − effective tax rate) ÷ average total short- and long-term debt and equity.
- For every profitability ratio, higher means more profitable.
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