Stock Charted
Glossary

Ratio Analysis

Ratio analysis is the practice of comparing figures from a company's financial statements to assess its profitability, liquidity, efficiency, leverage and valuation.

What Is Ratio Analysis?

Ratio analysis is a method of evaluating a company by dividing one financial figure by another and interpreting the result. A single number, such as total profit, says little on its own. Set against sales, assets or shareholder funds, it becomes easier to judge how well a business is performing and how it compares with others.

Ratios are usually grouped by the question they answer. Profitability ratios measure how much profit a company keeps from its sales or investment. Liquidity ratios show whether it can meet short-term bills. Leverage ratios reveal how heavily it relies on borrowed money, and efficiency ratios show how well it uses its assets. Valuation ratios relate the share price to earnings or other measures.

How Ratio Analysis Works

Most ratios are simple division using figures from the balance sheet or the income statement. For example, the current ratio is calculated as follows:

Current Ratio = Current Assets / Current Liabilities

A result above 1 generally means a company has more short-term assets than short-term obligations. Ratios become meaningful through comparison: over several periods for the same company, against competitors in the same industry, or against a recognized benchmark. Industries differ widely, so a ratio that is typical for a utility may look weak for a software firm.

Advantages and Limitations

Ratio analysis standardizes figures so that companies of different sizes can be compared on a common basis. It can also highlight trends and warning signs that are hard to see in raw totals.

The method has limits, however:

  • Ratios depend on reported figures, which reflect accounting choices that can vary between companies.
  • They describe past periods and do not guarantee future results.
  • The same ratio name may be calculated differently by different data sources, so definitions should be checked.
  • No single ratio tells the full story, so they are best read together and alongside the complete financial statements.

Updated October 29, 2026. For general education only; not financial, tax or legal advice.

Browse the Glossary

Related Terms

Balance Sheet

A balance sheet is a financial statement that lists a company's assets, liabilities, and shareholders' equity at a specific point in time, showing what it owns and owes.

Income Statement

An income statement is a financial report that summarizes a company's revenues, expenses, and resulting profit or loss over a specific period, such as a quarter or year.

Current Ratio

The current ratio is a liquidity measure that compares a company's current assets to its current liabilities, showing whether it has enough short-term resources to cover obligations due within one year.

Financial Statements

Financial statements are standardized reports that show a company's financial position, performance, and cash flows over a period, typically including the balance sheet, income statement, and cash flow statement.

Price-to-Earnings Ratio (P/E Ratio)

The price-to-earnings ratio compares a company's share price with its earnings per share, showing how much investors pay for each dollar of annual profit.

Return on Equity (ROE)

Return on equity is a profitability ratio that measures how much net income a company generates for each unit of shareholder equity, expressed as a percentage.

Debt-to-Equity Ratio (D/E)

The debt-to-equity ratio compares a company's total liabilities to its shareholders' equity, showing how much of its funding comes from borrowing versus from owners' capital.

Gross Margin

Gross margin is the percentage of a company's revenue that remains after subtracting the direct costs of producing the goods or services it sells, showing how much each sales dollar contributes.