Analyzing Financial Statements

Video Transcript

"My name is Miranda Chook, a CPA. Ratios are one way of analyzing financial statements. Financial statements ratios may differ depending on what industry you're analyzing as well as what company you're analyzing. In this segment we'll talk about a few of the common ratios that are used to analyze some of the items on an income statement. The first common ratio is the gross margin ratio, gross margin percentage. This is calculated, is taking the gross margin divided by sales. In general the higher the better because that means that there are revenues in excess of the cost to produce the product or to make the sale that is available for other expenses of the company. But again, you'll need to compare it to other companies within the industry to really get some context as to how well this company is performing. Now another common ratio that is used is the operating margin or the operating profit margin. And the calculation itself is just to take the operating profit, divide it by sales. And operating profit does reflect a company's sales less their cost of sales, less some of the operating income and expense items. And finally for purposes of this segment, another common ratio is the profit margin ratio. And this you will take net income and divide it by sales to determine the percentage of net income that's generated by the company sales. And again for all of these ratios they do need some context to be actionable and meaningful. Compare them to prior periods for the company and to forecast if the company has provided them. Also take a look at competitors or other companies in the industry to get a feel for how well this company is performing."