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WARREN BUFFETT'S INCOME STATEMENT RULES OF THUMB
By Brian Stoffel – Interpreted and Structured for Practical Use
| Metric | Formula | Rule of Thumb | Interpretation |
| Gross Margin | Gross Profit / Revenue | > 40% | A high gross margin means the company has strong pricing power and efficient cost of goods sold. Lower margin industries (e.g., retail) must rely on volume. |
| SG&A Margin | SG&A / Gross Profit | < 30% | Selling, General & Administrative expenses should be controlled. A lean operation keeps SG&A low relative to gross profit. |
| R&D Margin | R&D / Gross Profit | < 30% | For tech and pharma companies, R&D is vital — but Buffett avoids companies that overspend on uncertain innovation. |
| Depreciation Margin | Depreciation / Gross Profit | < 10% | High depreciation may indicate heavy capital investment. Buffett favors businesses that don't need constant reinvestment. |
| Interest Margin | Interest / Operating Income | < 15% | Companies heavily burdened by interest payments are risky. Strong businesses finance growth with retained earnings, not debt. |
| Tax Margin | Taxes / Pre-Tax Income | ≈ Corporate Tax Rate | Avoid companies that depend on temporary tax loopholes. Sustainable businesses pay a normal tax rate. |
| Net Income Margin | Net Income / Revenue | > 20% | A consistently high bottom-line margin shows a company can turn revenue into real profit — a key Buffett trait. |
| EPS Growth | Year 2 EPS / Year 1 EPS | Positive & Growing | Earnings per share should grow steadily. Look for consistent upward trends, not one-time spikes. |
Why These Ratios Matter
• Buffett seeks predictable, durable, and profitable companies — the kind that generate excess cash without needing constant reinvestment or incurring debt.
• These rules help filter out businesses with weak fundamentals, poor cost control, or financial red flags.
• Use these benchmarks to compare companies in the same industry, not across unrelated sectors (e.g., SaaS vs. manufacturing).
Bonus Tip: Apply these ratios over 5–10 year periods to check for consistency. A one-year outlier doesn't make a great business — but long-term discipline does.