Ratio analysis

Definition

Ratio analysis involves evaluating financial statements to understand a company's operational efficiency, profitability, and solvency. It uses various ratios derived from financial data to assess performance in key areas like inventory management.

5 Must Know Facts For Your Next Test

1. The Inventory Turnover Ratio measures how often inventory is sold and replaced over a period.
2. Days Sales in Inventory (DSI) calculates the average number of days it takes to sell the entire inventory.
3. A high Inventory Turnover Ratio indicates efficient inventory management, while a low ratio may suggest overstocking or obsolescence.
4. DSI is inversely related to the Inventory Turnover Ratio; lower DSI indicates quicker sales of inventory.
5. Both ratios are crucial for assessing liquidity and ensuring that capital is not tied up unnecessarily in unsold goods.

Review Questions

Related terms

Inventory Turnover Ratio:

A metric that shows how many times a company’s inventory is sold and replaced over a specific period.

Days Sales in Inventory (DSI): A measure of the average time required for a company to turn its inventory into sales.

Liquidity:

The ability of a company to meet its short-term obligations using assets that can be quickly converted into cash.