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Financial ratios: Identify four ratios and indicate what they tell about a company

Financial ratios are important to the understanding of the financial health of a company. You and your colleagues work for a financial services firm. Your are discussing the merits of the various financial ratios. Identify four financial ratios and state what they tell you about a firm and why it's important to understand what these ratios mean to both a bank and an investor.

Solution Preview

When we are analyzing our firm's financial status, income statements, balance sheets and all other information may form a mountain of data that makes it though to deal with. In order to reduce this complexity we can use a carefully selected, diversified set of financial ratios. Financial ratio is simply a mathematical comparison between two or more items from our balance sheet or income statement. We can use these ratios to measure the progress of our business, uncover trends, and point to potential problem areas. Bankers and investors often analyze these numbers to decide if they want to lend us money or invest in our company. Financial ratios should be compared to industry norms and to prior years' ratios for the same company to identify changes in operations that may affect future operating results. For example, comparing ratios can indicate whether a business is holding too much inventory or collecting receivable too slowly. This comparison provides a window into ways in which our business can improve its operations. Several commonly used business ratios can provide a snapshot of a firm's financial condition. The most commonly examined financial ratios fall into three ...

Solution Summary

The solution includes comprehensive discussions about various types of ratios and their use by stakeholders of a company.

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