Complete Financial Ratio Analysis Guide - All 4 Categories with Examples &
Interpretations
What is Ratio Analysis?
Ratio Analysis is a method of evaluating a company's financial performance and position by
calculating relationships between different financial statement items. It's like taking a company's
"vital signs" to assess its financial health.
Why Ratio Analysis Matters
Stakeholder What They Want to Know Key Ratios They Focus On
Investors Is this a good investment? Profitability & Efficiency ratios
Lenders Can they repay loans? Liquidity & Leverage ratios
Management How well are we performing? All ratios for comprehensive view
Competitors How do we compare? Industry benchmarking ratios
Suppliers Will they pay us? Liquidity & Activity ratios
The Four Categories of Financial Ratios
Category Purpose Key Question Answered
Liquidity Measure ability to pay short-term debts "Can we pay our bills?"
Activity (Efficiency) Measure how well assets are used "How efficiently do we operate?"
Profitability Measure ability to generate profits "Are we making money?"
Leverage (Solvency) Measure long-term financial stability "Can we handle our debt?"
,1. LIQUIDITY RATIOS
Purpose: Measure a company's ability to meet short-term obligations (debts due within one
year).
Current Ratio
Formula & Calculation
Current Ratio = Current Assets ÷ Current Liabilities
Example Calculation
TechCorp Financial Data:
Current Assets: $500,000
Current Liabilities: $250,000
Calculation Step Formula Result
Current Ratio $500,000 ÷ $250,000 2.0
Interpretation Table
Ratio Range Interpretation What It Means
2.0 or higher Excellent liquidity Company can easily pay short-term debts
1.5 - 1.9 Good liquidity Adequate ability to meet obligations
1.0 - 1.4 Acceptable liquidity Can meet debts but should monitor closely
Below 1.0 Poor liquidity May struggle to pay short-term debts
, Quick (Acid-Test) Ratio
Formula & Calculation
Quick Ratio = (Current Assets - Inventory) ÷ Current Liabilities OR Quick Ratio = (Cash + Short-
term Investments + Accounts Receivable) ÷ Current Liabilities
Example Calculation
TechCorp Financial Data:
Current Assets: $500,000
Inventory: $150,000
Current Liabilities: $250,000
Calculation Step Formula Result
Quick Assets $500,000 - $150,000 $350,000
Quick Ratio $350,000 ÷ $250,000 1.4
Why Remove Inventory?
Inventory is the least liquid current asset because:
Takes time to sell
May become obsolete
Value can fluctuate
Not easily converted to cash
Interpretations
What is Ratio Analysis?
Ratio Analysis is a method of evaluating a company's financial performance and position by
calculating relationships between different financial statement items. It's like taking a company's
"vital signs" to assess its financial health.
Why Ratio Analysis Matters
Stakeholder What They Want to Know Key Ratios They Focus On
Investors Is this a good investment? Profitability & Efficiency ratios
Lenders Can they repay loans? Liquidity & Leverage ratios
Management How well are we performing? All ratios for comprehensive view
Competitors How do we compare? Industry benchmarking ratios
Suppliers Will they pay us? Liquidity & Activity ratios
The Four Categories of Financial Ratios
Category Purpose Key Question Answered
Liquidity Measure ability to pay short-term debts "Can we pay our bills?"
Activity (Efficiency) Measure how well assets are used "How efficiently do we operate?"
Profitability Measure ability to generate profits "Are we making money?"
Leverage (Solvency) Measure long-term financial stability "Can we handle our debt?"
,1. LIQUIDITY RATIOS
Purpose: Measure a company's ability to meet short-term obligations (debts due within one
year).
Current Ratio
Formula & Calculation
Current Ratio = Current Assets ÷ Current Liabilities
Example Calculation
TechCorp Financial Data:
Current Assets: $500,000
Current Liabilities: $250,000
Calculation Step Formula Result
Current Ratio $500,000 ÷ $250,000 2.0
Interpretation Table
Ratio Range Interpretation What It Means
2.0 or higher Excellent liquidity Company can easily pay short-term debts
1.5 - 1.9 Good liquidity Adequate ability to meet obligations
1.0 - 1.4 Acceptable liquidity Can meet debts but should monitor closely
Below 1.0 Poor liquidity May struggle to pay short-term debts
, Quick (Acid-Test) Ratio
Formula & Calculation
Quick Ratio = (Current Assets - Inventory) ÷ Current Liabilities OR Quick Ratio = (Cash + Short-
term Investments + Accounts Receivable) ÷ Current Liabilities
Example Calculation
TechCorp Financial Data:
Current Assets: $500,000
Inventory: $150,000
Current Liabilities: $250,000
Calculation Step Formula Result
Quick Assets $500,000 - $150,000 $350,000
Quick Ratio $350,000 ÷ $250,000 1.4
Why Remove Inventory?
Inventory is the least liquid current asset because:
Takes time to sell
May become obsolete
Value can fluctuate
Not easily converted to cash
