A ratio is two numbers from the statements divided so they can be compared across companies and years. Three cover most conversations.
A ratio is two numbers from the statements divided so they can be compared across companies and years. Three cover most conversations.
Current ratio is current assets divided by current liabilities. Can the company cover the year's bills? Above one means yes on paper.
Net margin is net income divided by revenue. What share of each sales dollar is profit?
Return on equity is net income divided by shareholders' equity. How much profit did the owners' money earn?
Apple and Costco for their 2023 fiscal years. In millions. All derived. Arithmetic shown.
| Ratio | Apple | Costco |
|---|---|---|
| Current ratio | $143,566 million over $145,308 million is 0.99 | Not computed here |
| Net margin | $96,995 million over $383,285 million is 25.3% | $6,292 million over $242,290 million is 2.6% |
| Return on equity | $96,995 million over $62,146 million is 156% | Not computed here |
Apple's current ratio is just under one. Day 4 said why that's fine for Apple. For a company without Apple's payment timing it would be a warning.
Apple keeps 25 cents of every dollar. Costco keeps under 3. Different businesses. Neither is wrong.
Apple's return on equity is 156%. That's not a typo. Apple earned one and a half times its entire book equity in one year. Part of that is a great business. Part of it is day 7. Buybacks shrink equity. The denominator has been getting smaller for a decade while profit grew. Return on equity rewards companies that hand money back.
The trap is comparing ratios across different kinds of business.
Costco's 2.6% net margin against Apple's 25% tells you nothing about which is better run. It tells you one sells groceries and the other sells phones and software. Compare Costco with Walmart. Compare Apple with Samsung. Ratios only mean something against a peer or against the same company last year.
The second trap is return on equity when equity is tiny. A company that has bought back most of its shares can show an enormous number on a small base. Check what's in the denominator before you're impressed.
Your manager sends you two companies' numbers and asks which is the better business. Company A. Net income $50 on revenue $1,000 and equity $200. Company B. Net income $30 on revenue $300 and equity $300.
Net margin for each.
A is 5%. B is 10%.
Return on equity for each.
A is 25%. B is 10%.
Which is better?
It depends on what they are. B keeps more of each dollar. A earns more on its owners' money. And A might have shrunk its equity with buybacks.
Reply in one sentence.
B has the better margin and A has the better return on equity and I'd need to know what each company does before picking one.
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