Financial ratios are one of the most popular financial analysis tools. Especially, it works as a bridge between technical and non-technical users of financial statements.
Financial Ratios might be very useful when evaluating the financial health of various companies. There are a number of people who are interested in studying financial reports such as annual reports, interim reports to decide whether or not to invest in the company. However, the lack of professional knowledge of accounting and accounting terms can be a barrier for them.
Ratio analysis plays a crucial role in helping such users of financial statements. The primary reason for the popularity of financial ratios is that they use very basic mathematical formulas such as calculating percentages, division etc.
Financial Ratios assist in focusing on the financial strengths and weaknesses of an enterprise, however, they can not, by themselves, clarify why sure strengths or weaknesses exist, or why differences have occurred. Solely an in-depth investigation will reveal these underlying causes.
Ratios might be expressed in numerous kinds, for instance as a proportion or as a proportion. The best way explicit ratio is introduced will depend upon the wants of these who will use the data. Though it’s attainable to calculate numerous ratios, solely a comparatively few primarily based on key relationships are typically used to a selected consumer. Many ratios that could possibly be calculated from the financial statements might not be thought-about as a result of there isn’t a clear or significant relationship between the 2 objects.
There is no such thing as a rule of thumb of ratios that may be utilised to the financial statements, neither is there an ordinary methodology of calculating many ratios. Variations in each the selection of ratios and their calculation will likely be present in follow. Nonetheless, it’s necessary to be constant in the best way wherein ratios are calculated for comparability functions. The ratios that we will now go on to debate are these which can be extensively used.