Wealth First explains why a few simple ratios can help investors interpret financial strength, performance, and efficiency.

Behind every company’s balance sheet lies a story of how efficiently it earns, spends, and grows.
Financial ratios help decode that story. They act as lenses through which investors can understand how a business is performing, whether it is generating profits, using capital wisely, or managing risk effectively.

There are many ratios in investing context. But, here we’ll take a look at five of them, what they mean, and how they help you interpret the financial health of a business.

1. Price-to-Earnings (P/E) Ratio

Formula:

P/E Ratio = Market Price per Share ÷ Earnings per Share (EPS)

What it means:
The P/E ratio tells you how much investors are willing to pay for each rupee of earnings.

  • A higher P/E may suggest that the market expects higher growth in the future.
  • A lower P/E could indicate undervaluation — or slower growth expectations.

Context:
P/E ratios are useful for comparing companies within the same sector but should not be the only factor in decision-making, as earnings and market sentiment can change over time.

2. Return on Equity (ROE)

Formula:

ROE = (Net Profit ÷ Shareholder’s Equity) × 100

What it means:
ROE shows how efficiently a company uses shareholders’ funds to generate profit.

  • A consistently high ROE indicates effective capital use.
  • A falling ROE may point to inefficient operations or rising debt.

Context:
ROE is particularly important for long-term investors evaluating management performance and profitability sustainability.

3. Debt-to-Equity (D/E) Ratio

Formula:

D/E Ratio = Total Debt ÷ Shareholder’s Equity

What it means:
This ratio measures a company’s financial leverage, i.e. how much debt it uses compared to its own capital.

  • A higher D/E means more borrowed funds, which can amplify both profits and risks.
  • A lower D/E indicates conservative financing and lower financial risk.

Context:
Useful for understanding whether a company’s growth is funded through internal capital or external borrowing.

4. Current Ratio

Formula:

Current Ratio = Current Assets ÷ Current Liabilities

What it means:
The current ratio gauges a company’s ability to meet short-term obligations using short-term assets.

  • A ratio above 1 suggests the firm can cover its liabilities comfortably.
  • A very high ratio, however, might indicate under-utilized resources.

Context:
This ratio reflects liquidity and short-term financial health — a vital measure for assessing operational efficiency.

5. Earnings Per Share (EPS)

Formula:

EPS = (Net Profit – Preferred Dividends) ÷ Number of Outstanding Shares

What it means:
EPS represents how much profit is attributed to each share of stock.

  • A rising EPS indicates increasing profitability.
  • A falling EPS can signal declining performance or dilution from new share issuance.

Context:
EPS is often used alongside P/E to understand both valuation and profit trends.

How These Ratios Work Together

Individually, each ratio gives a snapshot of one aspect of a company’s performance. Together, they form a balanced picture of profitability, leverage, liquidity, and efficiency — the four pillars of sound financial analysis.

In investing, ratios are not predictions — they are reflections. They help you ask the right questions before you invest.

Key Takeaways

  • Financial ratios simplify complex statements into meaningful insights.
  • P/E measures market perception; ROE tracks efficiency; D/E checks leverage; Current Ratio tests liquidity; EPS gauges profitability.
  • Ratios are tools for analysis, not decision triggers — context and comparison matter.
  • The same ratio can have different meanings across industries or market cycles.

Understanding ratios helps investors move from guessing to reasoning — turning data into informed awareness.

To learn more about fundamental concepts like valuation, profitability, and portfolio balance, explore the articles and calculators available on the Wealth First website.

Disclaimer

The content shared by Wealth First is for general informational and educational purposes only and should not be considered as investment advice, research, or a solicitation to buy or sell any financial product. All information in emails, posts, and articles from Wealth First is intended solely to increase financial awareness, and should not be construed as investment advice. Past performance is not indicative of future results. All investments are subject to market risks, including possible loss of principal. Readers should consult their financial, legal, or tax advisors before making any investment decisions tailored to their personal circumstances. While utmost care is taken to ensure accuracy of information, Wealth First does not guarantee completeness, reliability, or timeliness, and shall not be liable for any direct or indirect loss arising from reliance on such information.