Profitability Ratios

Return (rate earned) on common stockholders’ equity

Measures how well a business has used the resources provided by the stockholders. Investors compare this rate with other companies to determine the best investment.

Formula: Return (rate earned) on common stockholders’ equity=Net income/ Average stockholders’ equity

Return (rate earned) on average total assets

Shows how well a business is using its assets to earn net income.  

Formula: Return (rate earned) on average total assets=Income after federal income tax/Average total assets

Return (rate earned) on net sales

Should be consistent from year to year if costs are controlled well. 

Formula: Return (rate earned) on net sales=Net income after federal income tax/net sales

Earnings per share of common stock

Measures the amount of profit that can be assigned to each share of common stock.  Stockholders and potential investors use this ratio to judge a company’s performance and compare its performance to those of other businesses.  Earnings per share is usually reported on the income statement, below the net income amount.

Formula: Earnings per share of common stock=net income/number of shares of capital stock outstanding

Price-earnings ratio

Used to evaluate the reasonableness of the market price of a corporation’s stock.  

Formula: Price-earnings ratio=Market price per share/earnings per share of common stock