Financial ratios are one of the principle tools used by the business community to help in financial analysis planning and control. The analysis of Key Financial Ratios enables a company to thoroughly assess the strengths and weaknesses of its financial position.

The sources of these financial ratios are the Balance Sheet, Income Statement and the Statement of Retained Earnings. The accuracy of the financial ratios obtained from these basic financial statements are dependent upon these statements being properly prepared and up-to-date. It is strongly suggested that an accountant or CPA familiar with small business financing be employed to prepare these statements and perform the ratio analysis. Once the ratio analysis has been completed, the information provided to the decision makers in a company can prove to be invaluable.

Ratios can be used for many things, including making comparison of the firm's present position to its position in prior periods. This ratio comparison allows a firm to know if it is growing stronger or showing signs of weakness. Another use of ratios is to allow management to make comparisons to the current budget. Ratio analysis also allows a company to compare itself to the industry as a whole. When the ratios for a company are compared to the national averages, it allows a company to know its position in comparison to its competitors. Knowing this, a company has a stranger base on which to plan for the future and it has a better idea of the areas that it must improve in order to remain strong and competitive.

There are three basic types of Financial Ratios and they include the following:

1. Profitability Ratios
2. Activity Ratios
3. Liquidity Ratios

The following is an explanation of these ratios and some examples of specific ratios under each of the categories.

The Profitability Ratios help a firm judge how effectively it is being managed. These profitability Ratios include the following:

The Activity Ratios measure how effectively the firm employs the resources it has at its command. These ratios all involve comparisons between the level of sales and the investment in various asset accounts. The Activity Ratios include the following:

The Liquidity Ratios enable a firm to know if it is going to be able to meet its maturing obligations. By relating the amount of cash and other current assets to the current obligations, these ratios determine the degree of liquidity of the company. The Liquidity Ratios include the following:

There are several sources that can be used for comparing your results to the results of the industry as a whole. Some of these sources include the following:

• Dun and Bradstreet
  The most widely known and used industry average ratios are those complied by Dun and Bradstreet. They provide fourteen ratios calculated for several different industries. These industries include Manufacturing and Construction, Wholesalers and Retailers.

• Trade Associations and Public Accountants
  Financial ratios for many industries are compiled by trade associations and constitute an important source to be checked by a financial manager seeking comparative data.

• Robert Morris Associates The industry average ratios provided by Robert Morris Associates are based on financial statements received by banks in connection with loans they have made. There are eleven ratios computed for a wide range of industries.

• Quarterly Financial Reports for Manufacturing Corporations
  The Federal Trade Commission (FTC) and the Securities and Exchange Commission (SEC) jointly publish quarterly data on manufacturing companies. This information includes an analysis by industry group and asset size, as well as financial statements in ratio form. These reports are a rich source of information and are frequently used for comparative purposes.