The Importance Of Financial Analysis

Financial analysis helps companies assess their financial health, and assist them in making decisions concerning their management and activities. Companies also have to protect the interests of their stakeholders and shareholders. Shareholders want to know the company’s financial health in order to evaluate investment decisions, such as the purchase and sale of shares. The people that perform these analyses are simply referred to as financial analysist.

Financial Ratios

Financial ratios show the relationships between various financial data as recorded in the company’s financial documents. These ratios can be used to compare the performance of one company with another. The ratios are based on the information contained in the balance sheet and

It also shows how well a company is managing its liabilities. There are several ratios calculated under these, including asset turnover ratio, average collection period, and inventory turnover ratio (Ormiston & Fraser, 2016). Profitability ratios measure the extent to which a company is able to make profit. It shows whether a business is performing well over a certain period of time (Melicher, 2013). There are several ratios types of profitability ratios, such as net profit margin, operating profit margin, gross profit margin, cash flow margin, return on assets, return on equity, and payout ratios. Information on a corporations stock can be evaluated in the profitability ratios (Harrington, 2004).

The Du Pont is a system of financial analysis that seeks to discover a company’s return on asset and return on equity (Ormiston & Fraser, 2016). This method is used to see which company has a superior return in comparison with other companies. The Du Pont system is calculated by finding the rate of return on equity and rate of return on assets (Ormiston & Fraser,

This analysis shows the strengths and weakness points of a business. Then management of a company can take the necessary measures to strengthen the weak points. The Du Pont system analyzes the company’s total assets, total debt and total owner equity (Melicher, 2013).

The Du Pont system highlights three main components: profitability, leverage and operative efficiency. This component measures the rate of conversion of capital invested to profit at every level of business operation. Leverage ratio measures the rate of a company depending on debt financing of its capital structure (Ormiston, & Fraser, 2016).

The financial ratio that can best determine profitability of a company compared to others is the profitability ratio. This is because profitability ratios show the overall efficiency and performance of a company. Another reason as to why the profitability ratio could be the best is that these ratios shows return. This represents the overall ability of the firm to generate returns to its shareholders (Ormiston, & Fraser,