Financial Ratios Definitions
Investment Basics Made Better

Find financial ratios definitions from your online investment resource. You'll learn what these ratios mean, how to use them, and how to calculate them using financial ratio formulas.

You'll need a basic understanding of ratios to read any company's financial statements. Many of these investment concepts are quite easy to grasp with the right learning tools on hand.

Continue reading a full explanation of the most common financial ratios and their formulas. We recommend bookmarking this page so that you can find it again quickly and easily in the future.

The Importance of Ratios

It's your responsibility to your company or investment to understand financial statements. A crucial part of this means knowing the basic financial ratios definitions that accountants use when developing these documents.

Although it's rare that you'll need to use these ratios yourself, you should still have a firm knowledge of the definitions and formulas. This will help you assess your investment's profitability when reviewing the financial statements.

A company's ratios mean little when they stand alone; it's only when they're compared with the competition that they become significant. For this reason it's also important to know the financial ratios industry averages, along with those of the individual company.

Financial Ratio Formulas

Below are some financial ratios definitions and formulas used in the annual report, based on Dan Fournier's acclaimed investment guide.

Gross Profit Margin

Definition: Indicates how much profit of each revenue dollar is left over after subtracting costs related to generating those sales. The higher the ratio, the better.

Formula: Gross Profit Margin = (Revenue - Cost of Goods Sold)/Revenue

Net Profit Margin

Definition: Indicates how much profit of each revenue dollar is left over after subtracting all costs incurred by the company. The higher the ratio, the better.

Formula: Net Profit Margin = Net Income/Revenue

Return on Assets (ROA)

Definition: Reveals how efficiently and effectively the company uses its fixed assets to generate profit. The higher the ratio, the better.

Formula: Return on Assets = Net Income/Total Assets

Return on Equity (ROE)

Definition: Indicates how much profit is generated with the money shareholders have invested in the firm. The higher the ratio, the better.

Formula: Return on Equity = Net Income/Shareholder's Equity

More Financial Ratio Formulas

You can read more financial ratios definitions in Dan Fournier's investment guide. He covers all the basic formulas, along with thorough explanations of how they're used in annual reports.

Simply visit the Ordering page to find out more about Fournier's guide and how you can order a copy online. You can also follow the links below to learn about financial ratios industry averages and financial ratio formulas.

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