Glossary

# Cost/income ratio

## The cost-to-income ratio is a key financial measure, particularly important in valuing banks...

The cost-to-income ratio is a key financial measure, one which is mostly used when valuing banks. It shows a company's costs as a proportion of its income. Calculating the ratio is straightforward. You simply take the bank’s operating costs (this includes administrative and fixed costs, such as salaries and property expenses, but not bad debts that have been written off, for example). You then divide this number by the company’s operating income (which is simply turnover minus operating costs).

Here’s the equation:

### Operating costs / operating income = Cost-to-income ratio

The resulting ratio gives investors a clear view of how efficiently the bank is being run (at least in theory). In effect, it shows how much input (cost) the bank requires to generate one pound (or dollar or euro, say) of output (profit).

The lower the ratio, the more profitable, productive and competitive the bank will be. For example, a ratio of one would mean the bank is spending every penny of operating income it makes – it has to spend a pound to make a pound. Clearly, that is not a sustainable state of affairs.

As with most valuation measures, the cost-to-income ratio really needs to be used in conjunction with relevant comparators. For example, you can look at how the ratio for a given bank has changed over the years. Changes in the ratio can highlight potential problems: if the ratio rises from one period to the next, it means that costs are rising at a higher rate than income, which could suggest that the bank has taken its eye off the ball in the drive to attract more business.

That said, slashing costs may drive the ratio lower in the short term, but in the longer run may have an impact on customer service or compliance with regulators, for example, and therefore have an eventual negative impact on income.

It’s also important to compare ratios across the sector. If a given bank stands out (as either having an unusually high or unusually low ratio) it is worth digging deeper to find out why. In the case of banks, different regulatory environments in different countries can make a significant difference to average cost-to-income ratios between nations.

#### Recommended

Will energy prices go down in 2023?
Personal finance

Will energy prices go down in 2023?

Wholesale gas prices are on a downward trajectory, but does this mean lower energy bills later this year?
27 Jan 2023
Best regular savings accounts – January 2023
Savings

Best regular savings accounts – January 2023

You can earn an attractive rate on the best regular savings accounts. We tell you the best on the market to take advantage of right now
27 Jan 2023
Equity release v downsizing – which is best?
Personal finance

Equity release v downsizing – which is best?

Equity release hit a record high in 2022. But is downsizing a better way to hold on to your money?
27 Jan 2023
Best savings accounts – January 2023
Savings

Best savings accounts – January 2023

Interest rates on cash savings are making a comeback. We look at the best savings accounts on the market now
27 Jan 2023

#### Most Popular

House prices could fall 30%. Should investors be worried about a repeat of 2008?
Investments

House prices could fall 30%. Should investors be worried about a repeat of 2008?

Some analysts are predicting that house prices could fall as much as 30%, which, when compared to the fact that prices have jumped 28% since April 201…
24 Jan 2023
When will interest rates go up?
UK Economy

When will interest rates go up?

New interest rates will be announced on 2 February – we look at what to expect.
26 Jan 2023
Is the State Pension triple lock doomed to fail?
Pensions

Is the State Pension triple lock doomed to fail?

The State Pension triple lock guarantees an increase in the state pension every year, but this assumes government income grows every year as well, whi…
25 Jan 2023