Profitability Ratios

Definition: The Profitability Ratios measure the overall performance of the company in terms of the total revenue generated from its operations. In other words, the ratios that measure the capacity of a firm to generate profits out of the expenses and the other cost incurred over a period are called the profitability ratios.

Profit Margin Ratios and the Rate of Return Ratios are the two types of Profitability Ratios.The Profit Margin Ratio shows the relationship between the profit and sales and whereas the Rate of Return Ratios shows the relationship between the profits and the investments.

I Profit Margin Ratios

The most popular ratios are:

1. Gross Profit Margin Ratio
2. Operating Profit Margin Ratio
3. Net Profit Margin Ratio

II Rate of Return Ratios

The most popular ratios are:

1. Return on Assets Ratio
2. Return on Equity Ratio
3. Return on Capital Employed

Generally, the ratios with the higher value are favorable as it indicates that the company is doing well.