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Financial Ratios

Intermediate
12 min

What is Financial Ratios?

Financial ratios analyze relationships between financial statement numbers, helping evaluate company performance and health.

Key Components:

  • Compare relationships
  • Enable company comparisons
  • Identify trends
  • Investment decisions

Why it matters

Performance

Measure profitability

Risk

Assess liquidity and solvency

Investment

Compare companies

Credit

Banks use ratios

Key Concepts

Liquidity

Pay short-term debts

Example: Current Ratio = CA/CL...

Profitability

Generate profit

Example: Gross Margin = GP/Revenue...

Leverage

Use of debt

Example: Debt-to-Equity...

Efficiency

Use assets

Example: Inventory Turnover...

How to use

1

Get statements

Income statement, balance sheet

2

Identify accounts

Find needed numbers

3

Apply formulas

Calculate ratios

4

Compare

Industry benchmarks

5

Analyze trends

Multiple periods

Example

Goal: Calculate key ratios
Gross Margin: 40%
Current Ratio: 2.0
Debt-to-Equity: 0.67
Interpretation: Healthy liquidity, manageable debt
Result: Company shows healthy financial position

Pro Tips

  • •Use industry benchmarks: Compare to averages
  • •Look at trends: Single ratio not enough
  • •Consider full picture: Use multiple ratios

Practice

Calculate current ratio, gross margin, and debt-to-equity for a company
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