Question

How do ratios help you determine trends? What specific information do managers look at? Is there different ratios for different levels of management?

Answer 1

answer-

Ratios help manager to determine trends because it helps to know the changes in our organization in context of finance and employees and other business aspects. Ratio analysis can be used to establish a trend line for one company's results over a large number of financial reporting periods . This can highlight company changes that would not be evident if looking at a given ratio that represents just one point in time.

Comparing a company to its peers or its industry averages is another useful application for ratio analysis. Calculating one ratio for competitors in a given industry and comparing across the set of companies can reveal both positive and negative information.

Since companies in the same industry typically have similar capital structures and investment in fixed assets, their ratios should be substantially the same. Different ratio results could mean that one firm has a potential issue and is under performing the competition, but they could also mean that a certain company is much better at generating profits than its peers. Many analysts use ratios to review sectors, looking for the most and least valuable companies in the group.

Company's manager look for information like financial statements, cost to the company, competitior's analysis, market demand to make ratio analysis.

different types of ratios are-

Most investors are familiar with a few key ratios, particularly the ones that are relatively easy to calculate and interpret. Some of these ratios include the current ratio, return on equity (ROE), the debt-equity (D/E) ratio, the dividend payout ratio, and the price/earnings (P/E) ratio. While there are numerous financial ratios, they can be categorized into six main groups based on the type of analysis they provide.

1. Liquidity Ratios

Liquidity ratios measure a company's ability to pay off its short-term debts as they come due using the company's current or quick assets. Liquidity ratios include the current ratio, quick ratio, and working capital ratio.

2. Solvency Ratios

Also called financial leverage ratios, solvency ratios compare a company's debt levels with its assets, equity, and earnings to evaluate whether a company can stay afloat in the long-term by paying its long-term debt and interest on the debt. Examples of solvency ratios include debt-equity ratio, debt-assets ratio, and interest coverage ratio.

3. Profitability Ratios

These ratios show how well a company can generate profits from its operations. Profit margin, return on assets, return on equity, return on capital employed, and gross margin ratio are all examples of profitability ratios.

4. Efficiency Ratios

Also called activity ratios, efficiency ratios evaluate how well a company uses its assets and liabilities to generate sales and maximize profits. Key efficiency ratios are the asset turnover ratio, inventory turnover, and days' sales in inventory.

5. Coverage Ratios

These ratios measure a company's ability to make the interest payments and other obligations associated with its debts. The times interest earned ratio and the debt-service coverage ratio are both examples of coverage ratios.

6. Market Prospect Ratios

These are the most commonly used ratios in fundamental analysis and include dividend yield, P/E ratio, earnings per share, and dividend payout ratio. Investors use these ratios to determine what they may receive in earnings from their investments and to predict what the trend of a stock will be in the future.

For example, if the average P/E ratio of all companies in the S&P 500 index is 20, with the majority of companies having a P/E between 15 and 25, a stock with a P/E ratio of 7 would be considered undervalued, while one with a P/E of 50 would be considered overvalued. The former may trend upwards in the future, while the latter will trend downwards until it matches with its intrinsic value.