Use of Financial Ratios
Financial Ratios are used to measure financial performance against standards. Analysts compare financial ratios to industry averages (benchmarking), industry standards or rules of thumbs and against internal trends (trends analysis). The most useful comparison when performing financial ratio analysis is trend analysis. Financial ratios are derived from the three financial statements; Balance Sheet, Income Statement and Statement of Cash Flows. Financial ratios are used in Flash Reports to measure and improve the financial performance of a company on a weekly basis.
The following five (5) major categories are included in the financial ratios list.
- Liquidity Ratios
- Activity Ratios
- Debt Ratios
- Profitability Ratios
- Market Ratios
Liquidity ratios measure whether there will be enough cash to pay vendors and creditors of the company. Some examples of liquidity ratios include the following:
Activity ratios measure how long it will take the company to turn assets into cash. Some examples of activity ratios include the following:
- Daily Sales Outstanding(DSO)
- Accounts Receivable Turnover
- Daily Payable Outstanding
- Accounts Payable Turnover
- Inventory Days Outstanding
- Inventory Turnover
Debt ratios measure the ability of the company to pay its’ long term debt. Some examples of debt ratios include the following:
- Times Interest Earned Ratio
- Debt Ratio
- Debt to Equity Ratio(D/E Ratio)
- Fixed Charge Coverage Ratio
- Debt Service Coverage Ratio (DSCR)
The profitability ratios measure the profitability and efficiency in how the company deploys assets to generate a profit. Some examples of profitability ratios include the following:
- Gross Profit Margin
- Operating Profit Margin Ratio
- Net Profit Margin
- Return on Equity Ratio(ROE Ratio)
- Return on Investment Ratio (ROI Ratio)
The market ratios measure the comparative value of the company in the marketplace. Some examples of market ratios include the following:
- Price Earnings Ratio(P/E Ratio)
- Earnings per Share (EPS)
- Price to Book Value Ratio(PBV Ratio)
- Price to Sales Ratio
- Dividend Yield
- Price Earnings Growth Ratio(PEG Ratio)
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