Financial ratios vary across different industries and sectors and comparisons between completely different types of companies are often not valid. In addition, it is important to analyze trends in company ratios instead of solely emphasizing a single period’s figures.
What is a ratio? It’s a mathematical expression relating one number to another, often providing a relative comparison. Financial ratios are no different—they form a basis of comparison between figures found on financial statements. As with all types of fundamental analysis, it is often most useful to compare the financial ratios of a firm to those of other companies.
Financial ratios fall into several categories. For the purpose of this analysis, the commonly used ratios are grouped into four categories: activity, liquidity, solvency and profitability. Also, for the sake of consistency, the data in the financial statements created for the prior installments of the Financial Statement Analysis series will be used to illustrate the ratios. Table 1 shows the formulas with examples for each of the ratios discussed.