Profitability: how much a company earns on what was invested

Profit in absolute terms is not comparable across companies of different size. Profitability ratios solve that.

Margin

Profit divided by revenue. It shows how much survives from each unit of sales.

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A high margin usually means either a strong market position or low costs. Margins are comparable only within an industry: retail and extraction differ by an order of magnitude by the nature of the business.

Return on equity

Profit divided by shareholders' equity — how much the company earns on its owners' money.

A trap is built in here: the ratio rises not only when profit grows but when the denominator shrinks. A company that took on debt and bought back its own shares shows an excellent return on equity with worse resilience — ROE: the headline measure of business quality and its main trap.

Return on assets

Profit divided by total assets. It does not depend on the funding structure and is therefore fairer for comparing companies with different debt.

The trajectory matters more than the level

A steadily falling margin alongside rising revenue means the growth was bought with discounts. That is visible only across several years.

Related: How to read the income statement and Earnings quality: how much cash is in the profit.