ratio analysis

(verb)

the use of quantitative techniques on values taken from an enterprise's financial statements

Related Terms

Examples of ratio analysis in the following topics:

  • Ratio Analysis

    • Ratio analysis is a useful tool for benchmarking the financial and operational efficiency of a project compared with other projects.
    • Ratio analysis is used in finance and accounting to determine how a company is performing financially compared with other companies; efficiency and other production metrics may also be assessed.
    • In project management, a ratio analysis may be related to the efficiency of a project and how well the project managers are controlling resources.
    • The goal of any organization is profits, and ratio analysis allows organizations to see where dollars are being invested and the results on that investment in terms of profitability percentage.
    • Recognize the importance of ratios and ratio analysis in financial assessment and project control

  • Evaluating Financial Statements

    • With a few exceptions, the majority of the data used in ratio analysis comes from evaluation of the financial statements.
    • Ratio analysis is a tool for evaluating financial statements but also relies on the numbers in the reported financial statements being put into order to be used as ratios for comparison over time or across companies.
    • With a few exceptions, such as ratios involving stock price, the majority of the data used in ratio analysis comes from the financial statements.
    • While analysis of a company's prospects can include a number of factors, including understanding the economic situation or the industry or sentiment about the company or its products, ratio analysis of a company relies on the specific company financials.
    • Evaluating financial statements involves getting the numbers in order and then using these figures to perform ratio analysis.

  • Trend Analysis

    • Trend analysis consists of using ratios to compare company performance on an indicator over time, often to forecast or inform future events.
    • In addition to using financial ratio analysis to compare one company with others in its peer group, ratio analysis is often used to compare the company's performance on certain measures over time.
    • Fundamental analysis, on the other hand, relies not on sentiment measures (like technical analysis) but on financial statement analysis, often in the form of ratio analysis.
    • Creditors and company managers also use ratio analysis as a form of trend analysis.
    • Trend analysis using financial ratios can be complicated by the fact that companies and accounting can change over time.

  • Classification

    • Ratio analysis consists of calculating financial performance using five basic types of ratios: profitability, liquidity, activity, debt, and market.
    • Ratio analysis is one of three methods an investor can use to gain that understanding.
    • Financial statement analysis is the process of understanding the risk and profitability of a firm through analysis of reported financial information.
    • Ratio analysis is a foundation for evaluating and pricing credit risk and for doing fundamental company valuation.
    • Financial ratio analysis allows an observer to put the data provided by a company in context.

  • Ratio Analysis and EPS

    • Ratio analysis and EPS are used to compare the strengths and weaknesses of various companies with industry or company benchmarks.
    • Financial ratios quantify many aspects of a business and are an integral part of the financial statement analysis.
    • Times interest earned ratio (Interest Coverage Ratio): EBIT / Annual interest expense
    • Return on assets (ROA ratio or Du Pont Ratio): Net income / Average total assets
    • Ratio analysis includes profitability ratios, activity (efficiency) ratios, debt ratios, liquidity ratios and market (value) ratios

  • Analyzing Long-Term Liabilities

    • Analyzing long-term liabilities combines debt ratio analysis, credit analysis and market analysis to assess a company's financial strength.
    • As part of their analysis Standard & Poor's will issue a credit rating that is designed to give lenders and investors an idea of the creditworthiness of the borrower.
    • Popular debt ratios include: debt ratio, debt to equity, long-term debt to equity, times interest earned ratio (interest coverage ratio), and debt service coverage ratio.
    • There is more to analyzing long-term liabilities than simply reading a company's credit rating and performing independent debt ratio analysis.
    • An example of the credit ratings prescribed by Standard & Poor's as a result of their respective long-term liability analysis for debt issued at the national government level.

  • Selected Financial Ratios and Analyses

    • Financial ratios and their analysis provide information on a firm's profitability and allow comparisons between the firm and its industry.
    • Two main methods for analysis are horizontal and vertical analysis.
    • When using comparative financial statements, the calculation of dollar or percentage changes in the statement items or totals over time is horizontal analysis.
    • This analysis detects changes in a company's performance and highlights trends.
    • Vertical analysis is usually performed on a single financial statement (i.e., income statement): each item is expressed as a percentage of a significant total.

  • Performance per Share

    • Valuation ratios describe the value of shares to shareholders, and include the EPS ratio, the P/E ratio, and the dividend yield ratio.
    • Price to Earnings (P/E) ratio relates market price to earnings per share.
    • A higher P/E ratio means that investors are paying more for each unit of net income; therefore, the stock is more expensive compared to one with a lower P/E ratio.
    • P/E Ratio = Market Price Per Share / Annual Earnings Per Share .
    • Dividend payout ratio is the fraction of net income a firm pays to its stockholders in dividends: Dividend Payout Ratio = Dividends / Net Income for the Same Period.

  • Interpreting Ratios and Other Sources of Company Information

    • Financial statement analysis, also known as financial analysis, is the process of understanding the risk and profitability of a company through the analysis of that company's reported financial information.
    • There are four methods for making these types of comparisons: vertical analysis, horizontal analysis, ratios, and trend percentages.
    • Ratios are expressions of logical relationships between items in financial statements from a single period.
    • It is possible to calculate a number of ratios from the same set of financial statements.
    • The only limiting factor in choosing ratios is that the items used to construct a ratio must have a logical relationship to one another.

  • Total Debt to Total Assets

    • The debt ratio is expressed as Total debt / Total assets.
    • Financial ratios quantify many aspects of a business and are an integral part of the financial statement analysis.
    • Financial ratios are categorized according to the financial aspect of the business which the ratio measures.
    • Debt ratios measure the firm's ability to repay long-term debt.
    • Like all financial ratios, a company's debt ratio should be compared with their industry average or other competing firms.