I.

Top 10 Financial Ratios to use Before Buying a Stock 1

The video listed down the different kinds of financial ratios an aspiring
investor could possibly need before opting to purchase any kind of stock in the
market. Since ratios paint a quick snapshot of the quantitative health of a
company, an investor should supplement this with a qualitative scan.
The first ratio that the video discussed was the operating margin ratio,
which can be calculated by dividing operating income by sales. This ratio tells an
investor how much brand power and efficiency a company has. The video
compared the operating margin of Apple and Walmart, citing that Apple had a
higher operating margin with 27% as compared to Walmart’s 4.2%. However,
having a low margin does not necessarily mean that the business isn’t doing well.
But investors need to understand that the lower one’s ratio is, the more easily a
company can drop into operating losses. The next ratio discussed was the
Interest coverage/ Times Interest ratio, which can be calculated by dividing EBIT
by interest expense. This is a good ratio to check for a company’s level of
financial distress or risk of bankruptcy. Since a higher ratio means that you have
more power of paying off your debts. Another financial distress ratio is the debt-
to-equity ratio. The higher the leverage of liabilities to equity, the higher the risk a
company is taking, which can mean bad news in the long run. The best ratio to
use for beginning investors is the PE ratio as this tells us how much earnings a
shareholder earned during the year and how many years it would take to be paid
back assuming there’s no growth. It gives investors a snapshot as to whether
they need to dig for more information about the company. The Earnings per
Share ratio is an important ratio as well since it gives the shareholder a realistic
view as to how well the company is doing in terms of how much their investment
is worth. Finally, the most important ratio for investors would be the Return on
Invested Capital ratio, which is operating income after taxes divided by what
shareholders and debt owners put up. This ratio is important since as someone
buying the business would like to see what they could earn irrespective of how
much debt a company uses.
The video clearly laid out the different ratios one can use in analyzing a
company’s performance, what they are, and what they mean. The ratios
discussed were in line with the lessons discussed in class. The video gave a
clear example of how to apply the concepts I learned in class in real-life practice.

1Video source: https://www.youtube.com/watch?v=5ELXFBCpJp0