Ratio is a term which indicates the association between any of the two inter - connected variables. That is, the ratios use to institute the association among two items that are stated in quantitative form. The ratio analysis is the analysis of financial statements (balance sheet, profit and loss statement, cash flow statement etc.) of the firms of a specific period and interpreting of financial results with the assistance of available ratios. In finance, a ratio is termed as an association between 2 numbers of similar type which generally uttered as a: b or ‘a to b’.
In ratio analysis, the financial ratios act as a tool. The required data for the ratio analysis used to be gathered from the financial statements of the firm. Generally, the ratio analyses are used to determine the financial safety and financial condition of a firm. The ratio analysis is considered as an essential technique to institute the association between two accounting numbers in order to highlight the important data to the management and the users who could assess the condition of the business and to view their concert in an expressive way. There are various analyses and researches (for example, Minter et al Eds. 1982; Kumbirai & Webb, 2010) on the use of ratio analysis in evaluating the financial performance of the firms. Added to that, the ratio analysis assists in the firms’ budgeting, long – term planning, strengthening the financial performance through asset management etc.
The ratios in the ratio analysis are classified into various types. They are liquidity ratio or quick ratio or liquid ratio or acid test ratio, solvency or financial structure or capital structure ratio, profitability ratio, activity ratio or efficiency ratio and coverage ratio.
Thus, it is clearly understood that ratio analysis helps in analyzing each and every financial aspect of a firm starting from its assets to liabilities and debt. This helps in understanding the financial condition and complete performance of an entity.
Minter et al Eds. (1982), Using ratio analysis to evaluate financial performance, New Directions for Higher Education, Issue 38, .
Kumbirai & Webb (2010), A financial Ratio Analysis of Commercial Bank Performance in South Africa, African Review of Economics and Finance, Print Services, Rhodes University, Vol. 2, No. 1.