FAR 06 Financial Ratios

Remembering and Understanding: Identify the appropriate financial statement ratio or performance metric to perform a specified type of analysis.

In this section, the task is remembering and understanding. Identify the appropriate financial statement ratio or performance metric to perform a specified type of analysis.

So for this task, we will briefly cover the types of ratios and then in the remaining tasks in this topic, we're going to go deeper into the specific ones that are mentioned in each representative task.

So the first main type would be liquidity ratios.

So these measure a company's ability to meet its short-term obligations.

Examples would be the current ratio, and that's current assets over current liabilities. This indicates whether the company can cover its short-term debts with its short-term assets.

The next one is the quick ratio, which is current assets minus inventory and prepaids over current liabilities.

This is doing the same thing as the current ratio, it's just taking out prepaids and inventory, which typically wouldn't be readily converted into cash to be able to cover liabilities.

The next type would be solvency ratios.

So these assess a company's ability to meet long-term obligations and its financial leverage. So the debt to equity ratio, which is total liabilities over shareholders' equity, this shows the proportion of equity and debt the company uses to finance its assets.

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