Ratio Analysis:Commonly Asked Questions.

This article focus on some commonly asked questions on Ratio Analysis:
In my forthcoming articles on Ratio Analysis,I shall be tabulating useful major financial ratio into the following compartments for easy assimilation:
·         formula,
·         how is it to be used,
·         scores or values,
·         interpretation and comments
Now let’s start with the Commonly Asked Questions:
1.                   What is Ratio analysis?

• Ratio analysis involves methods of calculating and interpreting financial ratios to assess a firm’s financial condition and performance.

2.                   Who is interested in Ratio analysis?

• Since it’s able to assess a firm’s financial condition and performance,hence it is of  interest to shareholders,creditors,and the firm’s own Management.

 
3.                   How many types of Ratio comparison?
There can be broadly classified into three (3) types:

1. Trend or Time-Series Analysis
• To evaluate a firm’s performance over time

2. Cross-Sectional Analysis

·         To  compare one firm’s financial performance to the industry’s average performance. Cross-sectional analysis is used to compare different firms at the  same point in time.

3. Combined Analysis

·         Combined analysis simply uses a combination of both time series analysis and cross-sectional analysis
4.                   What are the cautions in using Ratio Analysis?

1. Ratios must be considered together;

2. Financial statements that are being compared should be dated at the same point in time.

3.   Use audited financial statements when possible.
4    Merely numbers &data hard to get.
5         Be wary of inflation distortions,historical cost,different accounting policies,management manipulation &different definitions
5         It is difficult to define categorically what a good or bad ratio value should be.
5.                   How many types of Financial Ratio Classifications?
Broadly classified into:

1. Liquidity
2. Asset Management
3. Profitability
4. Financial leverage management
5. Market based
6. Dividend policy
7. Bankruptcy – Altman Z

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