The 7 essential Financial Ratios to consider before investing
At a glance
• Before investing, it is important to look beyond the share price and assess whether the company is growing in a consistent and healthy way;
• Some of the most important financial ratios include ROI, Price-to-Earnings Ratio (P/E Ratio), Dividend Yield and Equity Ratio. However, their real strength lies in analysing them together;
• A thorough analysis of financial ratios enables investors to see beyond appearances and base their decisions on facts.
We all know that investment decisions should be based on hard data. But which data? Which indicators are important to monitor? Is it ROI or P/E? Is it Dividend Yield or EBITDA? If you also struggle to analyse a company before investing, rest assured that you’re not alone. Investment platforms offer a variety of financial ratios, ranging from the familiar and straightforward to the more technical and complex.
The good news is that it is not difficult to keep track of how well companies you’re interested in are performing. To make things easier, we’ve compiled the 7 fundamental ratios that you should consider before investing.
1. ROI (Return on Investment): to find out if your investment pays off
The ROI (Return on Investment) shows how much an investment generates in relation to the amount invested. This is one of the most straightforward ratios for investors, as it shows whether capital invested in a particular company or project has generated a positive return, and allows you to compare it with other options. The higher it is, the more efficient the investment.
It is particularly useful when it comes to choosing between different options. Imagine that you invested €1,000 in a technology company and, after one year, the value of your investment had increased to €1,200. The ROI would be 20% [(200/1000) × 100]. By contrast, if you had invested the same amount in a retail company that yielded only €1,050 in the same period, the ROI would be 5%.
So, ROI helps to put the figures into perspective. However, it should always be considered alongside other ratios to avoid jumping to conclusions, as a high ROI can indicate risk.
2. Price-to-Earnings Ratio (P/E): what is the cost of each euro of profit generated?
The Price-to-Earnings Ratio (Price/Earnings) shows how much investors are willing to pay for each euro of profit that a company generates. This is one of the most commonly used ratios for assessing whether a share is "expensive” or "cheap”.
Although a high P/E ratio can indicate strong market belief in a company's growth potential, it can also suggest that the share is overvalued. Similarly, a low P/E ratio may suggest an investment opportunity, but it could also indicate limited growth prospects.
Picture two companies operating within the same sector. The cost of each share in Company A is €50, with earnings per share (EPS) of €5. This represents a P/E of 10. The P/E for Company B is 16, with a share price of €80 and an EPS of €5.
In this case, investors pay €10 for each euro of profit made by Company A, and €16 for each euro of profit made by Company B. This could mean that the market has more faith in Company B's future, or it could simply be that the share is overvalued.
This is why it is important to compare the P/E ratio with those of similar companies and with the sector average, in order to avoid jumping to conclusions based on a single figure.
3. Dividend Yield: used to measure the dividends yielded by the investment
The Dividend Yield shows the percentage of the share price that investors receive in annual dividends. This is an important indicator for those seeking a regular income, as it reflects the direct returns that the company distributes to its shareholders.
If you buy a share at €20 and the company pays an annual dividend of €1, the Dividend Yield will be 5% [(1 ÷ 20) × 100]. If a share priced at €40 pays the same dividend of €1, its Dividend Yield will be just 2.5%.
Although the first option appears to be more attractive, you should check whether the company can sustain that dividend. This is where the Payout Ratio (the percentage of profit distributed in dividends) comes in: if the payout ratio is too high, a high dividend yield can be a sign of risk.
4. Payout Ratio: used to determine whether dividends are sustainable
The Payout Ratio shows what proportion of a company’s profits is distributed as dividends. This ratio is fundamental to understanding whether dividends paid to shareholders are consistent and sustainable in the long term.
This indicator helps investors identify companies that distribute solid, balanced dividends, as opposed to those that may be jeopardising their future in order to achieve short-term success. If a company’s payout is too high, it may indicate a lack of reinvestment in business growth. Conversely, if a company’s payout is too low, it may suggest that the company prefers to reinvest profits rather than distribute them.
If Company A has a net profit of €100M and pays out €40M in dividends, the Payout Ratio is 40%. If Company B has a net profit of €100M and pays out €90M in dividends, its Payout Ratio is 90%.
In this scenario, Company A strikes a healthy balance: it distributes some of its profits to shareholders while retaining sufficient capital to reinvest in the business. By contrast, Company B distributes almost everything, which could jeopardise its ability to finance growth or withstand unforeseen events. Figures between 30% and 60% are usually considered sustainable, although this depends on the sector and company policy.
5. Equity Ratio: used to assess dependence on creditors
The Equity Ratio measures the proportion of equity capital in relation to the company’s total assets. The higher the ratio, the more solid the financial structure tends to be, and the less dependent the company is on creditors.
This ratio provides investors with a simple way of assessing whether a company has room to grow without jeopardising its stability. While heavily indebted companies can generate high returns in favourable times, they also pose a greater risk during periods of economic turbulence.
If Company A has €200M in assets, €100M of which is equity, its financial autonomy is 50%. If Company B also has €200M in assets, but only €40M is equity, its financial autonomy is just 20%.
This means that Company A finances half of its assets with its own resources, whereas Company B relies on borrowed capital (in the form of loans and debts) for 80% of its assets.
Company B will be much more exposed to risk in a scenario of economic crisis or rising interest rates, whereas Company A has a more resilient structure.
6. Net Margin: used to understand whether the company is "buying” growth
The Net Margin is the percentage of revenue that is converted into net profit. Put simply, it shows how much remains at the end of every €100 invoiced after paying all costs, interest and taxes.
For investors, it is an essential indicator of management efficiency. A consistent net margin indicates that a company is managing its costs effectively and creating sustainable value. Conversely, a low margin may indicate that growth is being "bought” through aggressive promotions, debt, or extremely tight pricing.
If Company A has a turnover of €100M and a net profit of €10M, its net margin is 10%. By contrast, if Company B also has a turnover of €100M, but a net profit of only €2M, its net margin is 2%.
Although both companies generate the same amount of revenue, Company A is much more efficient at converting sales into profit. On the other hand, Company B may be spending too much on operating costs or sacrificing margins in order to increase its sales volume.
For this reason, net margin is also an excellent criterion for comparing companies within the same sector, given that margins naturally differ between industries (for example, retail versus technology).
7. Debt/EBITDA Ratio: used to assess the ability to pay off debts
The Debt/EBITDA Ratio compares a company’s net debt with its earnings before interest, taxes, depreciation and amortisation (EBITDA). In practice, it shows how many years it would take for the company to repay its debts using its current operating profits alone.
A low figure indicates to investors that there is less financial pressure and more flexibility to invest or withstand crises, thus conveying confidence. On the other hand, a high value can indicate default risk or vulnerability to rising interest rates.
If Company A has a net debt of €50M and an EBITDA of €25M, its Debt/EBITDA ratio is 2. If Company B has a net debt of €120M and an EBITDA of €20M, the ratio increases to 6.
In theory, this means that Company A would take 2 years to pay off its debt using its current profits, whereas Company B would take 6 years.
As a general rule of thumb, investors should bear in mind that ratios of up to 3 are generally considered acceptable (depending on the sector). Much higher values may suggest that the company is overloaded with debt, making it more exposed to risk.
How to enhance financial analysis using GoBulling Pro
It is essential to evaluate financial ratios before investing. Banco Carregosa’s GoBulling Trading Platform offers advanced tools such as real-time quotes, interactive graphs and historical data, providing investors with the information needed to calculate and interpret these indicators. Decisions made based on clear and organised data lead to more informed decisions, turning analysis into strategy.
Investing with confidence means understanding the numbers and having the right tools with which to act on them. Using GoBulling Pro makes financial analysis an integral part of your investment strategy rather than a challenge.
Make the most of financial ratios with the support of Banco Carregosa
Understanding the key financial ratios is the first step towards making informed investment decisions. However, interpreting these indicators in the context of the market and using them to make sound decisions requires experience, strategic vision, and careful monitoring.
At Banco Carregosa, we support investors by helping them analyse companies, apply essential ratios and identify opportunities that align with their individual profiles and objectives. We provide clear insights that enable you to make safe choices tailored to your specific requirements in the market.
Talk to us to find out how we can support your investment strategy through our rigorous, independent and personalised approach.