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Module 3: Key ratios

A ratio turns two big numbers into one small, comparable number. These three are the most used: P/E for price, ROE for earning power, and debt to equity for risk. All numbers below are made up to teach the idea. They are not real companies.

How it connects. Module 2 gave you a company’s statements. Ratios turn those numbers into comparisons.

1. P/E: what you pay for profit

What it is. P/E (price to earnings) = share price ÷ earnings per share (EPS). It shows how many rupees the market asks for each ₹1 of a company's yearly profit.

Where to find it. On a stock's page on NSE or BSE, and on free screener websites. EPS comes from the company's quarterly and annual results (the P&L from Module 2).

How to read it. A P/E means little alone. Compare it with the same company's own past P/E, and with firms in the same sector. A higher P/E usually means the market expects faster growth.

Common trap. A low P/E is not automatically cheap. Profit may be about to fall. A high P/E is not automatically expensive. And a loss-making company has no P/E at all.

Try it. Pick two firms in one sector. Write down both P/Es and one reason the gap might exist. Then read their latest results to test your reason.

2. ROE: how hard the owners' money works

What it is. ROE (return on equity) = net profit ÷ shareholders' equity, shown as a percentage. Equity is what belongs to the owners, found on the balance sheet.

Where to find it. Net profit is on the P&L. Equity is on the balance sheet (both from Module 2). Screener websites also show ROE for several years side by side.

How to read it. Look for a steady ROE over many years, not one great year. Compare within the sector, because asset-heavy and asset-light businesses differ a lot.

Common trap. ROE can look high simply because equity is small after heavy borrowing. Always check debt next to it, which is lesson 3.

Try it. Find one company's ROE for the last five years. Is it steady, rising or falling? Write one sentence on what that says about its business.

3. Debt to equity: how heavy is the loan

What it is. Debt to equity (D/E) = total debt ÷ shareholders' equity. A D/E of 0.5 means ₹0.50 of borrowing for every ₹1 of owners' money.

Where to find it. The balance sheet shows borrowings and equity. Screener websites list D/E directly, and often the interest the company pays too.

How to read it. Lower usually means less strain when business slows, because interest must be paid even in bad years. Watch the trend: is debt rising faster than profit?

Common trap. Do not compare D/E across sectors. Banks and finance companies lend borrowed money by design, so their ratios look very different from a factory or an IT firm.

Try it. Compare D/E for two companies in the same sector. Then check whether each earned enough profit to cover its interest cost.

4. Using them together

What it is. Each ratio answers one question: is the price fair (P/E), does the money earn well (ROE), and how risky is the funding (D/E)? One number never tells the whole story.

How to read it. High ROE with low debt is a healthier sign than high ROE built on heavy borrowing. A high P/E with a weak ROE means the market is betting on a future the numbers have not shown yet.

Common trap. Do not turn a ratio into a rule such as “buy below 15 P/E”. Ratios start your questions. They do not answer them, and they are not a signal to buy or sell.

Try it. Take one company and write three lines: its P/E vs peers, its five-year ROE trend, and its D/E trend. Then say in one sentence what story they tell.

Disclaimer: WealthyTrees is for education only. Nothing here is investment advice or a recommendation to buy, sell or hold any share or product. Numbers and examples are made up. WealthyTrees is not a SEBI-registered investment advisor. Please speak to a SEBI-registered advisor before you invest.