Profitability ratios / Return ratios

The success of a company is primarily judged on the basis of its profitability and ability to generate profit. Profitability ratios, which are often referred to as return ratios, are used to measure this. There are many types of them, depending on the processes describing the area we want to investigate.

The fact that it is a given company alone does not tell much about the success of a company business year how much income it generated, how much it was, for example taxable income. In order to be able to form an idea of whether this is a good or bad performance in a particular case, you need to be able to compare it to something. 

The profitability of a business can be measured in many ways. No matter where we start from, in any case one of the result data (EBIT, EBITDA, taxed profit) are compared to some other characteristic data of the enterprise, for example for sales, for fixed assets or just the to equity. The values formed in this way are the profitability ratios, thanks to which we can now answer simple questions such as

• how much after-tax profit does the company generate by achieving a unit of sales? Or just now
• how much profit did the investment of one unit of equity bring to the company? Based on this, how long can the capital return.

Of course, these data by themselves still do not say much about whether the company is working well, but they are much more telling than mere numbers. We can, for example, compare it with what our competitors achieved in a given year or with the average level characteristic of our market (a with a benchmark). We can also track the development of our company by using them, if we compare the values achieved by the company in different periods. 

Profitability ratios are often referred to as return ratios. Not without reason: company managers and investors typically use them to examine the return on their investment. 

The following indicators are most often encountered

• the average coverage ratio, which shows the extent to which the company can cover operating costs from the products sold.
• the Return on Equity (ROE) – through which an image can be formed of the return achieved by the owners after fulfilling the liabilities.
• the Return on Assets (ROA), which measures the profit after tax for fixed assets. This is the most frequently used indicator for comparison within the industry.
• the Return of Investment (ROI), with which a specific investment (for example, an investment) return can be investigated.

These ratios are therefore good for making the performance of different companies comparable, which can be important feedback for company management or investors. However, comparability has its limits. Very different values are typical for each sector: the return on logistics real estate development, for example, is significantly faster than that of office market or hotel real estate, even though the segments of real estate development are the same industry. It is therefore important to always select an indicator that exactly matches the purpose of the study during the comparison.