A large number of ratios are used to measure various aspects of performance. Commonly used financial ratios can be categorized as follows:
Category  What they measure  Example 
Activity ratios  Efficiency of a company in performing its daytoday operations.  
Liquidity ratios  A company’s ability to meet its shortterm obligations.  
Solvency ratios  A company’s ability to meet its long term obligations.  
Profitability ratios  A company’s ability to generate profit from its resources.  
Valuation ratios  Quantity of an asset or flow per share. 
Single statement ratios: Note that for some ratios, the numerator and denominator are from the same statement (Income statement, balance sheet or cash flow statement). For example, net profit margin (net income/sales), where both items are from the income statement.
Mixed ratios: For other ratios, the numerator is from one statement and the denominator is from another statement. An example is the asset turnover ratio (sales/assets), where the numerator is from the income statement and the denominator is from the balance sheet.
As standalone numbers, the financial ratios of a company are not meaningful. The ratios are usually industry specific. For instance, one cannot compare the ratios of Schlumberger with that of Facebook. The financial ratios should be used to periodically evaluate a company’s past performance (trend analysis) and its goals and strategy; how it fares against its peers in the industry (crosssectional analysis); and the effect of economic conditions on its business.
Activity ratios measure how efficiently a company manages its assets. They are also known as asset utilization ratios or operating efficiency ratios. The activity ratios usually have an element from the income statement in the numerator and one from the balance sheet in the denominator. The average of the balance sheet element is generally taken because the balance sheet only shows the value at the end of the period, whereas the income statement measures what happened during the period.
Activity Ratios  Formula  Interpretation 
Inventory turnover 


Days of inventory on hand 


Receivables turnover 


Days of sales outstanding 


Payables turnover 


Number of days of payables 


Working capital turnover 


Fixed asset turnover 


Total asset turnover 


Purchases = Cost of goods sold + Ending inventory – Beginning inventory
Instructor’s Note: How to remember the activity ratios
Higher number for turnover ratios = greater efficiency