Ratio analysis is an important tool for analyzing the company's financial performance. The following are the important advantages of the accounting ratios.
1. Analyzing Financial Statements
Ratio analysis is an important technique of financial statement analysis. Accounting ratios are useful for understanding the financial position of the company. Different users such as investors, management. bankers and creditors use the ratio to analyze the financial situation of the company for their decision making purpose.
2. Judging Efficiency
Accounting ratios are important for judging the company's efficiency in terms of its operations and management. They help judge how well the company has been able to utilize its assets and earn profits.
3. Locating Weakness
Accounting ratios can also be used in locating weakness of the company's operations even though its overall performance may be quite good. Management can then pay attention to the weakness and take remedial measures to overcome them.
4. Formulating Plans
Although accounting ratios are used to analyze the company's past financial performance, they can also be used to establish future trends of its financial performance. As a result, they help formulate the company's future plans.
5. Comparing Performance
It is essential for a company to know how well it is performing over the years and as compared to the other firms of the similar nature. Besides, it is also important to know how well its different divisions are performing among themselves in different years. Ratio analysis facilitates such comparison.