Financial Ratio Analysis
Financial ratio analysis evaluates a company's performance, liquidity, solvency, and efficiency by computing and comparing ratios derived from financial statement data.
Explanation
Liquidity ratios (current ratio, quick ratio) measure short-term ability to meet obligations. Profitability ratios (ROA, ROE, profit margin) evaluate earnings performance. Solvency ratios (debt-to-equity, times interest earned) assess long-term financial health. Efficiency ratios (inventory turnover, receivables turnover, asset turnover) measure how effectively assets are used. DuPont analysis decomposes ROE into profit margin × asset turnover × equity multiplier to identify drivers of returns.
Key Points
- •Liquidity: current ratio = current assets ÷ current liabilities
- •Profitability: ROE = net income ÷ average equity
- •DuPont: ROE = profit margin × asset turnover × equity multiplier
Exam Tip
Know the DuPont formula and be able to identify which component is driving changes in ROE — margin, turnover, or leverage.
Frequently Asked Questions
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