Ratio analysis is the process of using a financial statement to quickly integrate an entity’s performance in important areas. Managers and investors can assess the situation of the company by comparing the links between the financial statement accounts through ratio analysis. It gives us important financial data and highlights the areas that need more research. The process of regrouping data using mathematical relationships is known as ratio analysis, and interpreting the results is a difficult task. A solid understanding of the methods and procedures used to create financial statements is necessary for ratio analysis. When done well, it offers the analyst a wealth of financial data that is beneficial. The ten most crucial financial ratios for a company are as follows:

Financial Ratios for Business

Quick Ratio

A fast ratio demonstrates that, even in the event of an unforeseen circumstance, a company can fulfill its financial commitments and settle its liabilities. This ratio shows how much liquid capital a business has on hand to cover its short-term obligations. A greater ratio indicates a higher level of solvency for the company and a lower likelihood of bankruptcy.

Quick Ratio is equal to Current Liabilities & Provisions – Bank Overdrafts / Current Assets, Loans & Advances – Current Inventory – Prepaid Expenses.

Current ratio

A company’s current financial strength can be seen through the current ratio. It is comparable to the Quick Ratio and is likewise used to assess a company’s short-term solvency. Strong short-term solvency is indicated by a high current ratio for the company. This is also known as the working capital ratio at times.

(Total Current Assets, Loans & Advances) / Total Current Liabilities & Liabilities is the current ratio.

Inventory turnover ratio

The frequency with which a business turns inventory into sales is indicated by the inventory turnover ratio. This ratio also shows the duration of inventory holding. Inventory converts into revenue faster and more efficiently the shorter the holding period.

Cost of goods sold divided by average inventory is the inventory turnover ratio.

ROI (Return on Investment)

ROI essentially evaluates the financial return on investment between the amount you put in your company and its earnings. This ratio calculates your company’s profitability. Your company will make more money the higher the ROI Ratio. Before making an investment in any business, investors also use this ratio as their main signal.

ROI is calculated as follows: Earnings – Initial Expense / Initial Expense

Return on Capital Employed (ROCE)

This ratio shows the company’s return on total investment. This ratio, when compared to the industry average, provides an indication of the company’s financial performance and is the final gauge of the business’s overall performance and productivity of capital employed. When analyzing capital-intensive businesses in the telecom, oil and gas, heavy industries, etc., ROCE is a highly helpful ratio.

Profit before interest and taxes / total capital utilized is known as ROCE.

Return on Equity (ROE)

The income received by equity shareholders is shown by this ratio. A high ratio is indicative of a strong dividend, promising future, and high capital market valuation.

Equity Share Capital + Reserves and Surplus +/- Deferred Tax Assets or Liabilities equals Equity Shareholder Funds.

Profit after tax minus preference dividend divided by total capital employed is ROE * 100.

Earnings per Share (EPS)

One of the crucial financial parameters for a company is earnings per share. The earnings per share of a corporation are displayed by this ratio. It is among the crucial profitability indicators for analysts and investors. When valuing a company in a merger or other transaction, this ratio is the primary factor taken into account. A greater percentage conveys a favorable impression of the business. Greater returns are indicated by a larger ratio.

The amount of net income received on each share of a company’s stock is measured by earnings per share, or EPS.

Preference dividend / Number of equity shares / Profit after tax equals EPS.

Debt-Equity Ratio (DER)

This ratio shows how much of the company’s funding it is using from loans. The debt-to-equity ratio displays the total long-term debt of a company as a proportion of the total equity held by its owners.

Increased debt means increased interest-bearing fixed liabilities and increased risk to the company’s finances. Additionally, this ratio shows whether the business has the best possible capital structure to increase returns to equity shareholders.

Long-term debt / Equity is the debt-to-equity ratio.

Debtor Turnover Ratio

This ratio illustrates how well debtors are turned into cash. The pace at which debtors are turned into cash increases with the ratio. This ratio can also be expressed as a number of days.

Debtor Turnover Ratio: (Average Debtors/Net Sales)

Cash ratio

When calculating the working capital ratio, only cash and cash equivalents are taken into account. The whole value of cash on hand, which includes investments that mature in less than 90 days or similar products, is referred to as cash equivalent. Cash equivalents include things like commercial paper, Treasury notes, and Treasury bills. The cash ratio can be found using the formula below:

Cash ratio = Cash and cash equivalents / Current liabilities