Comparing Ratios the Right Way

Introduction

Ratios only have meaning in comparison. This lesson shows how to compare them correctly — against the right peers and with the right context.

Compare to the Right Peers

A company's ratios are most meaningful against:

• Direct competitors in the same industry
• Companies of similar size and growth stage
• Its own historical ratios

Industry Norms Differ

Industries have very different normal ratios:

• Software — high margins, high P/E, asset-light
• Retail — thin margins, low P/B
• Banks — judged by ROE and capital, P/E differs by cycle

Growth Stage Matters

• Young growth companies — high P/E or no earnings, judged on growth and cash burn
• Mature companies — stable earnings, dividends, lower growth
• Comparing across stages misleads

Time and Cycles

• Compare to ratios over a full cycle, not a single point
• Cyclical companies' ratios swing wildly with earnings
• Smooth or average ratios across cycles for a fair view

Context Over Numbers

Raw numbers without context mislead:

• One-time items distort earnings
• Currency and accounting differences affect comparability
• Adjustments vary by analyst

Real-World Example

Company A trades at P/E 30 in a sector averaging 25. On the surface it looks expensive. But A is growing 30% while peers grow 8% and historically traded at 35. In context, A may be reasonably priced.

Summary

• Compare ratios to same-industry, similarly-sized peers and own history
• Industry norms differ (software vs retail vs banks)
• Growth stage changes what ratios to use
• Look across full cycles, not one point
• Always interpret numbers with context

Next Lesson

Beyond the numbers: understanding the business model.