Types Of Financial Ratios

Financial statements both report on the status of a company at a time point and its activities for some time past. However, their usefulness lies in the fact that they can be used to help predict future performance of the company and dividends as well as the risk factor of these cash flows. From the perspective of equity investors, predicting the future is what financial statement analysis is all about. From the perspective of management, financial statement analysis is useful both as a way to anticipate future conditions and, more importantly, as a starting point for planning actions that will influence the future course of events for the company.

Financial ratios are designed to show relationships between the accounts of the financial statements. Ratios put into perspective. They provide comparisons to understand the current situation of the company with its past and its potential performance and future threats. These comparisons were made by ratio analysis. It should be noted that, according to financial analysts, a single report is relatively useless to conduct relevant assessments of the health of a company. Thus, while it should be interpreted effectively a report must be systematically compared with other reports the company has examined, or even competitors of the industry during a specific period of time.

Analysts widely used financial ratios can be considered as belonging to three main groups. Managers who use ratios to help analyze, monitor and improve business operations, credit analysts, who analyze ratios to determine the ability of a company to pay its debts, and securities analysts securities that are concerned about the effectiveness of a business and growth prospects. As expected, each group of analysts has specific areas of interest, which it wishes to investigate. Therefore, the ratios can be characterized by specific working groups. The five categories of group are liquidity ratios, asset management ratios, the ratios of debt management, profitability ratios and market value ratios.

One of the primary concerns of most analysts is liquidity. It is actually the company's ability to assess its maturing obligations. By comparing the amount of cash and other current assets to current requirements ratio analysis provides a measure quick and easy to use liquidity. The second group of ratios, the ratio of working capital, measuring the effectiveness of the company is managing its assets. If it has too many assets, interest costs are too high, and therefore their profits will be depressed. On the other hand, if the assets are too low, profitable sales may be lost. Thus, having the appropriate level of each type of asset is considered important. The inventory turnover ratio is defined as the cost of sales divided by inventory. These ratios indicate that the company has a full stock of inventory, surplus stocks are, of course, counterproductive, and represent an investment in low or zero rates of return.

Profitability is the net result of a large number of policies and decisions. Although the ratios discussed so far to provide information on how the company is operating, profitability ratios show the combined effects of liquidity, asset management, debt management and the results operating and net income. Return on capital employed is calculated by dividing the net profit before tax with capital and reserves.