You don’t have to have a degree in finance or accounting to benefit from Financial Ratios. They are mathematical comparisons of financial statement accounts yet are used by the wizards of Wall Street to understand how well a business is performing and where it needs to improve.
The real power of Financial Ratios lies in their being agnostic relative to the size of a business or the type of industry so that every business can benefit from them. All you have to do is know which numbers to pull from your financial statements, then use your knowledge of adding, subtracting, multiplication, and division to understand better what’s working well in your business and where you are getting stuck.
Overview
Financial Ratios are mathematical comparisons of financial statement accounts used to understand how well a business is performing and where it needs to improve. A significant benefit of Financial Ratios is that they are agnostic relative to the size of a company, or the type of industry.
Each ratio is simply a raw computation of financial position and performance used to identify a company’s strengths and weaknesses. The most common categories of Financial Ratio groupings include the following:
Profitability Ratios verify how well the company uses its resources and assets to generate profits.
Efficiency Ratios analyze the time a company takes to convert a sale into cash.
Liquidity Ratios are used by creditors to measure a firm’s ability to meet its short-term obligations by turning liquid assets into cash.
Solvency Ratios measure a company’s ability to sustain operations by comparing debt levels with equity, assets, and earnings.
Coverage Ratios measure how easily companies can afford to meet the interest payments associated with their debt.
The real power of Financial Ratios lies in their being agnostic relative to the size of a business or the type of industry so that every business can benefit from them. All you have to do is know which numbers to pull from your financial statements, then use your knowledge of adding, subtracting, multiplication, and division to understand better what’s working well in your business and where you are getting stuck.