Ratios: turning a page of numbers into comparisons
A profit of ₹3,544 crore means nothing until you know what it was earned on. A ratio divides one figure by another so that companies of different sizes, and years that differ, can be compared. This lesson shows what ratios are for, lets you watch costs and profit grow at different speeds, and applies the idea to Titan and Info Edge.
- Level
- Beginner
- Reading time
- About 24 minutes
- Know this first
- Reading cash flow quality
By the end you will be able to:
- say what a ratio does that a plain number cannot
- work out growth and share-of-revenue figures from two years of a statement
- name the four families of ratios and the question each one answers
- list the checks that make a ratio fair to compare, and say where ratios mislead
A number needs something to be divided by
Titan earned a profit after tax of ₹3,544 crore in FY2023-24. Info Edge earned about ₹833 crore. Titan's profit is 4.3 times larger, and that tells you almost nothing about which business is better at making money. Titan sells watches, jewellery and eyewear for ₹47,114 crore a year. Info Edge sells job listings and similar services for far less. Divide each profit by its own revenue and the picture changes: Titan kept ₹7.5 of every ₹100 it sold, Info Edge kept ₹35.0.
That is the whole idea of ratio analysis. It does not add new information. Every number in a ratio is already in the statements. What the division does is remove the effect of size, so that a small company and a large one, or last year and this year, can be put side by side. The three statements you have met so far supply the figures, and this module turns them into questions you can ask of any company.
Watch costs and profit grow at different speeds
Below is a small company in two years. In year 1 it had revenue of ₹10,00,000, materials of ₹6,00,000, staff costs of ₹2,00,000 and other costs of ₹1,00,000, leaving a profit of ₹1,00,000, which is 10% of revenue. In year 2 you choose how fast revenue, materials and staff costs grow. Other costs stay at ₹1,00,000. The left page shows year 2 in rupees, and the right page shows each line as a share of year 2 revenue, with the year 1 share beside its name.
Revenue grew 20% and profit grew 60.0%, from ₹1,00,000 to ₹1,60,000. Profit was 10.0% of revenue in year 1 and is 13.3% in year 2, so each rupee of sales now leaves more behind.
Try three things. First, keep revenue growth at 20% and raise materials growth to 30%. Revenue is ₹2,00,000 higher, yet profit is exactly where it started, ₹1,00,000, and its share of revenue has fallen from 10.0% to 8.3%. Second, set revenue, materials and staff costs all to 20%. Profit grows 40%, twice as fast as revenue, because one cost, the other costs, did not grow at all. Third, put materials growth at 50% with revenue at 20%: profit turns into a loss of ₹20,000 although sales rose. A table of rupee amounts would show revenue going up in every case. The share of revenue shows what happened to the business behind it.
Three ways to compare
Ratios are only useful when set against something. There are three standard comparisons, and the third is the hardest to do fairly.
Against the same company's past
The change from one year to the next is (this year − last year) ÷ last year. It is often called horizontal analysis when applied to every line of a statement, and trend analysis when it runs over several years. A growth rate is a ratio too: it puts the change in proportion to the starting point. Three to five years tell far more than two, because one year can be unusual.
Within one year
Divide each line of the income statement by revenue, or each line of the balance sheet by total assets. This is a common-size statement, also called vertical analysis. You have already met it in the lesson on the income statement, where each cost was shown per 100 rupees of revenue. It shows how the business is built, and it lets you compare firms of any size.
Against other companies or an industry average
A margin of 10% means one thing in a business with high stock and thin pricing, and another in a software business. The comparison is only fair against firms that earn their money in a similar way and report on a similar basis. Accounting textbooks list these same three comparisons: within the company over time, against an industry average, and against other companies.
Titan, two years, two ways
The table shows Titan's standalone income statement in ₹ crore, as printed, with the change from the year before and each line as a share of that year's revenue. Cost of goods is materials plus stock bought for sale plus the change in inventories. Operating profit is revenue less every cost except finance costs, so it leaves out other income and interest. Both are definitions this module uses throughout, and the lessons that follow state them again where they matter.
| Line | FY2023-24 | FY2022-23 | Change | FY2023-24 % of revenue | FY2022-23 % of revenue |
|---|---|---|---|---|---|
| Revenue from operations | 47,114 | 38,270 | +23.1% | 100.0% | 100.0% |
| Cost of goods | 36,942 | 29,046 | +27.2% | 78.4% | 75.9% |
| Employee benefits | 1,503 | 1,362 | +10.4% | 3.2% | 3.6% |
| Advertising | 829 | 739 | +12.2% | 1.8% | 1.9% |
| Depreciation | 447 | 364 | +22.8% | 0.9% | 1.0% |
| All other expenses | 2,816 | 2,353 | +19.7% | 6.0% | 6.1% |
| Operating profit | 4,577 | 4,406 | +3.9% | 9.7% | 11.5% |
| Finance costs | 480 | 240 | +100.0% | 1.0% | 0.6% |
| Profit after tax | 3,544 | 3,333 | +6.3% | 7.5% | 8.7% |
Revenue grew 23.1%, to ₹47,114 crore. Operating profit grew only 3.9%, from ₹4,406 crore to ₹4,577 crore, and profit after tax 6.3%. A table of rupees alone would show every line rising. The two right-hand columns show where the squeeze came from. Cost of goods grew 27.2%, faster than revenue, so it rose as a share of revenue and the gross margin slipped from 24.1% to 21.6%. Operating margin followed, from 11.5% to 9.7%. Finance costs doubled, from ₹240 crore to ₹480 crore, which is a signal to look at how much Titan borrowed, a question for a later lesson in this module.
The table gives you the questions, and does not answer them. Why did cost of goods grow faster than revenue? Was it a rise in the price of gold, a change in what Titan sold, or something else? A ratio tells you where to look. The explanation has to come from the notes to the accounts, the management's discussion and the products themselves.
Info Edge, two years, two ways
Info Edge reports its expenses by nature, not by function, so there is no cost of goods line, and a gross margin cannot be worked out from its statements. That is not a defect of the company. It is a reminder that a ratio can only be built from what a statement shows. The table below is in ₹ million, as printed, and operating profit is defined the same way as for Titan.
| Line | FY2023-24 | FY2022-23 | Change | FY2023-24 % of revenue | FY2022-23 % of revenue |
|---|---|---|---|---|---|
| Revenue from operations | 23,809.58 | 21,586.19 | +10.3% | 100.0% | 100.0% |
| Employee benefits | 9,820.90 | 9,087.10 | +8.1% | 41.2% | 42.1% |
| Advertising and promotion | 2,743.95 | 3,155.39 | −13.0% | 11.5% | 14.6% |
| Network, internet and other direct charges | 496.04 | 450.97 | +10.0% | 2.1% | 2.1% |
| Depreciation | 677.38 | 447.41 | +51.4% | 2.8% | 2.1% |
| Administration and other expenses | 1,196.08 | 1,050.58 | +13.8% | 5.0% | 4.9% |
| Operating profit | 8,875.23 | 7,394.74 | +20.0% | 37.3% | 34.3% |
| Profit after tax | 8,330.82 | 4,111.93 | +102.6% | 35.0% | 19.0% |
Revenue grew 10.3%, and operating profit grew 20.0%, so the operating margin widened from 34.3% to 37.3%. Two lines explain most of the improvement: spending on advertising and promotion fell by 13.0%, while employee costs rose 8.1%, a little less than revenue. Depreciation rose 51.4%, but it is small relative to revenue. Now compare the last row. Profit after tax grew 102.6%, and its share of revenue went from 19.0% to 35.0%. That jump is not mainly a story about the business becoming more efficient. In FY2022-23 Info Edge recorded an exceptional loss of ₹2,947.45 million, which pulled that year's profit down. The operating margin, struck before such items, is the steadier guide to the business, and looking at both rows is what stops you from misreading either.
The four families of ratios
Hundreds of ratios exist, but they answer a small number of questions. Most accounting textbooks sort them into four families.
| Family | The question | Examples | Where in this module |
|---|---|---|---|
| Liquidity | Can the company pay what it owes in the coming year? | Current ratio, quick ratio, cash ratio | Liquidity ratios |
| Profitability | How much does it earn on its sales and on the money put into it? | Gross, operating and net margin, return on assets, equity and capital employed | Profitability ratios |
| Solvency, or leverage | How much is borrowed, and can the profit carry the interest? | Debt to equity, debt ratio, interest cover | Debt and coverage ratios |
| Efficiency, or activity | How quickly do its assets turn into sales and cash? | Inventory, receivable and payable days, asset turnover | Days are in working capital and the cash cycle, and asset turnover in DuPont analysis |
A fifth group, valuation ratios such as the price-to-earnings ratio, compares a company's profit with the price of its shares. It needs share prices and is outside this module.
What makes a ratio fair
Before you trust a ratio, run through six checks. Each one has caught an analyst out at some point.
- Write the formula down. "Operating margin" is defined differently by different websites: some include other income, some do not. If you cannot say what is on the top and the bottom, you cannot compare it with another figure.
- Use the same footing on both sides. The lesson on cash flow quality showed Info Edge's cash-to-profit ratio swing from 1.12 to 1.92 depending on whether exceptional items were in the profit. Both figures must include or exclude the same items.
- Match the period. An income statement covers a year. A balance sheet is a photograph on one day. When a ratio divides one by the other, the common practice is to use the average of the opening and closing balance sheet, since the flow was earned across the year. Where only one balance sheet is available, using the closing one is the second choice. Ratios built each way will not match.
- Keep the unit the same. Titan reports in ₹ crore and Info Edge in ₹ million. A ratio is unaffected, because both its parts share the unit. A mix of units in one ratio is a mistake.
- Hold definitions steady over time. A trend is only meaningful if the ratio is calculated the same way each year, and the company has not reclassified items between years.
- Compare like with like. A jeweller, a software firm and a bank have different normal ranges for almost every ratio.
Where ratios mislead
- They hide size. A 40% margin on a tiny base is not worth more than a 5% margin on a huge one. Look at the rupees as well.
- They inherit the accounting. Titan's gold on loan sits in current liabilities, and one credit rating agency treats it as short-term debt. Every ratio that includes it moves with that choice. The liquidity and debt lessons show by how much.
- The balance sheet is one day. A ratio built from a balance sheet cannot tell you whether that day was typical. A business with a seasonal peak can look very different at 31 March from how it looks at 30 September.
- One ratio can be right while the picture is wrong. A company can have a comfortable current ratio and be losing money, or high margins and be unable to pay its bills.
- No ratio has a universal good number. A level that suits one industry will worry you in another. Compare against similar firms and the company's own history, never a rule of thumb alone.
One scoreboard, three companies
A set of ratios is most useful when it is put side by side. The table gives five ratios from the earlier lessons for Apple, Microsoft and Toyota in their latest fiscal year, each calculated in the same way for every company.
| Latest year | Current ratio | Operating margin | Return on equity | Borrowings over equity | Cash from operations / net income |
|---|---|---|---|---|---|
| Apple | 0.89 | 32.0% | 171.4% | 1.34 | 99.5% |
| Microsoft | 1.35 | 45.6% | 33.3% | 0.13 | 133.7% |
| Toyota | 1.26 | 10.0% | 13.6% | 1.05 | 77.2% |
The scoreboard suggests a story for each company, and the next lines read it the way an analyst would, with a question for each.
- Apple: an operating margin of 32.0% and a return on equity of 171.4%, with a current ratio of 0.89. Question: how much of the return comes from a small equity base, and does the current ratio ignore long-term securities?
- Microsoft: the highest operating margin, 45.6%, a return on equity of 33.3% and borrowing of only 0.13 times equity. Question: with so little borrowing, how will it keep earning that return as its capital spending rises?
- Toyota: an operating margin of 10.0%, a return on equity of 13.6% and borrowing of 1.05 times equity. Question: how much of the borrowing is the finance arm's, and is the finance arm earning its cost of funds?
Making the comparison fair
Before comparing ratios across borders, there is a checklist of things that must match or be adjusted for.
- Accounting standard. US GAAP, IFRS and Ind AS differ on inventory methods, development costs, impairment reversals and lease presentation. Know which one each company uses.
- Industry. Margins and turnover depend on the business model. Compare a car maker with car makers, and a software company with software companies.
- Year-end. Apple closes in late September, Microsoft in June and Toyota in March, so each "year" covers a different twelve months.
- Scope. A finance arm inside a manufacturer, as at Toyota, changes borrowing, assets and returns. Decide whether to include it.
- Currency and units. Ratios need no conversion, but raw amounts do. State the unit of every number.
None of these makes comparison impossible. Together they explain why a screen of ratios from a website, with no notes, is a starting point and not a conclusion. The purpose of the exercise is the follow-up question each ratio raises.
Common mistakes
Reading the rupee amount and ignoring the share
Titan's operating profit rose in rupees and fell as a share of revenue. Both are true, and the second is the one that shows the squeeze.
Treating a jump in net margin as a change in the business
Info Edge's net margin moved from 19.0% to 35.0%, largely because the earlier year carried an exceptional loss. Check the line above before reading the line below.
Comparing a ratio from a balance sheet with one from an income statement without checking the period
A return on closing balances and a return on average balances are both reasonable, but they give different answers, and putting one beside the other is a mistake.
Stopping at the ratio
A ratio is a prompt, not a conclusion. The reason for a change is in the notes, the cash flow statement and the business itself.
Using a rule of thumb as a pass mark
"Good" and "bad" levels quoted in textbooks are starting points that vary by industry and by period. Your comparison with similar companies matters more.
Try it yourself
1. A company's revenue rose from ₹80 lakh to ₹100 lakh. What was the growth rate?
Show the working
(100 − 80) ÷ 80 = 0.25, or 25%. Growth always divides the change by the starting figure, not the finishing one.
2. A company sells ₹80 lakh of goods that cost it ₹60 lakh to buy. What share of revenue is cost of goods, and what share is left as gross profit?
Show the working
60 ÷ 80 = 75%, so 25% is left. That 25% is the gross margin, and it has to pay for every other cost the business has.
3. Titan's revenue grew 23.1% in FY2023-24 and its operating profit 3.9%. Did its operating margin rise or fall, and which line grew faster than revenue?
Show the working
It fell, from 11.5% to 9.7%. Cost of goods grew 27.2%, faster than revenue, which took the gross margin from 24.1% to 21.6%.
4. Info Edge's net profit margin rose from 19.0% to 35.0%, while its operating margin rose from 34.3% to 37.3%. Why is the second change a better guide to the business?
Show the working
The net margin includes an exceptional loss of ₹2,947.45 million in FY2022-23, which depressed that year's profit. The operating margin is struck before exceptional items, interest and tax, so it moves with the trading business and not with the one-off.
Where this is used
- A lender reads liquidity and coverage ratios before agreeing a loan, and tracks them against the terms of the loan afterwards.
- An investor puts a company's margins and returns beside its rivals' to see which business earns more on what it sells and on what it holds.
- A manager compares each cost with revenue month by month, to catch a line that is growing faster than sales.
- An auditor uses ratio movements to find lines that behaved unexpectedly and deserve a closer look.
Key terms
- Ratio
- One figure divided by another, written as a percentage, a number of times or a number of days.
- Horizontal analysis
- Comparing each line of a statement with the same line in an earlier period, usually as a percentage change.
- Vertical analysis
- Expressing each line of a statement as a share of one base figure, such as revenue or total assets. Also called common-size analysis.
- Trend analysis
- Following a figure or ratio across several years to see its direction.
- Operating profit
- As used in this module, revenue less every cost except finance costs, leaving out other income.
- Footing
- The basis on which a figure is measured, such as before or after exceptional items.
- Benchmark
- A figure, usually from similar companies or the same company's history, that a ratio is judged against.
Questions people ask
How many ratios do I need?
Few. A handful from each family, read together over several years, tells you more than thirty read once. This module teaches the ones that come up most.
Are the formulas the same everywhere?
No. Websites and textbooks differ on which items go into operating profit, whether to use average or closing balances, and what counts as debt. That is why every lesson here states its formula and works through it on real figures.
Where can I practise?
On any listed company's annual report, which is free to download. Every figure in these lessons is a printed line from Titan's or Info Edge's published accounts, and you can repeat the working yourself.
Can ratios predict failure?
They can flag strain, such as falling cover or rising debt, but no single ratio forecasts it. Treat them as warnings that prompt questions.
Sources and review
- Titan Company Limited, audited standalone and consolidated financial results for the year ended 31 March 2024, filed with BSE. Source of every Titan figure in the tables.
- Info Edge (India) Limited, audited standalone financial statements, Q4 FY24. Source of every Info Edge figure in the tables.
- Lumen Learning, Financial Statement Analysis Defined, for the definition of ratio analysis, the four families of ratios and the three kinds of comparison.
- CPA British Columbia, Financial ratio analysis (guidance), for the point that profitability ratios divide an income statement figure by an average balance sheet amount.
- Apple Inc., Form 8-K, Exhibit 99.1: fourth quarter and full-year fiscal 2025 results, filed with the US Securities and Exchange Commission. Source of Apple's statements.
- Microsoft Corporation, Form 8-K, Exhibit 99.1: fourth quarter and fiscal year 2025 results, filed with the US Securities and Exchange Commission. Source of Microsoft's statements.
- Toyota Motor Corporation, FY2025 Financial Summary (IFRS, unaudited, in millions of yen), furnished to the US Securities and Exchange Commission on Form 6-K. Source of Toyota's statements.
How the numbers were checked: both income statements were rebuilt from the printed lines and every subtotal matched the filing. Operating profit was computed two ways, from revenue less costs and from profit before tax plus finance costs less other income, and the two agreed for both companies and both years. Every growth rate and share was recomputed in code from those figures. The calculator was tested against separate arithmetic across thousands of slider combinations.