Financial Ratio Analysis - Introduction

Before I analyze other companies’ ER and ratios let me explain more of the framework first. IU folks should recognize the framework as “ROE Analysis” right away as Jamie Pratt introduces it in Kelley. Some people would say it’s just something similar to Dupont analysis which breaks down ROE to other basic ratios. Well, I’ll just call it in general term: financial ratio analysis framework since it’s kinda more than ROE. What I really appreciate about this model is the integrity: it covers all the financial ratios: profitability ratios, liquidity ratios, efficiency ratios, leverage ratios. In addition, it presents the ratios in the clusters of operations, investing and financing. It really acts like an X-ray for a company’s financial performance. Assuming most of the numbers in financial statements are not fraudulent the framework can serve as a wonderful tool to understand a company’s fundamentals. Jamie Pratt’s book has great illustrations. I’ll have it posted in the post.

Here is a look at the framework. 

It may look overwhelming at first but it should get better after we break it down. There are four main groups of ratios: profitability ratios, efficiency ratios, liquidity ratios, and leverage ratios. I’ll elaborate them in following posts.