Reading Financial Reports For Dummies, 4th Edition
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You read financial reports to get a sense of a company's financial position and how viable it is in the marketplace. You can test a company's money-making prowess using the following important formulas.

  • Price/earnings ratio compares the price of a stock to its earnings. A ratio of 10 means that for every $1 in company earnings per share, people are willing to pay $10 per share to buy the stock.

    Price/earnings ratio = Market value per share of stock divided by Earnings per share of stock

  • Dividend payout ratio shows the amount of a company's earnings that are paid out to investors. Use it to determine the actual cash return you get by buying and holding a share of stock.

    Dividend payout ratio = Yearly dividend per share divided by Earnings per share

  • Return on sales tests how efficiently a company is running its operations by measuring the profit produced per dollar of sales.

    Return on sales = Net income before taxes divided by Sales

  • Return on assets shows you how well a company uses its assets. A high return on assets usually means the company is managing its assets well.

    Return on assets = Net income divided by Total assets

  • Return on equity measures how well a company earns money for its investors.

    Return on equity = Net income divided by Shareholders' equity

  • The gross margin gives you a picture of how much revenue is left after all the direct costs of producing and selling the product have been subtracted.

    Gross margin = Gross profit divided by Net sales or revenues

  • The operating margin looks at how well a company controls costs, factoring in any expenses not directly related to the production and sales of a particular product.

    Operating margin = Operating profit divided by Net sales or revenues

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Lita Epstein, MBA, enjoys helping people develop good financial, investing, and tax planning skills. She designs and teaches online courses and has written more than 40 books, including Bookkeeping For Dummies and Reading Financial Reports For Dummies.

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