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Financial ratios are used to evaluate the financial fitness of your business. If you familiarize yourself with these ratios and monitor them regularly, you can better determine if your financial condition is improving or deteriorating.
Here are some of the more commonly used ratios and an explanation of the information they provide.
Profitability measures the returns on assets and equity. It tells you how efficiently your investment is earning income.
- Gross profit margin = gross profit ÷ sales
- Net profit margin = net income ÷ sales
- Return on Equity (ROE) = net income ÷ equity
Liquidity measures your ability to pay short-term obligations.
- Current ratio = Current assets ÷ current liabilities
- Quick ratio = Current assets less inventory ÷ current liabilities
Leverage measures your degree of indebtedness and your ability to meet long-term obligations.