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CHAPTER 4 • THE INTERNAL ASSESSMENT 109

FIGURE 4-3
A Financial Ratio Trend Analysis
Current ratio

5.0 Industry average
4.0
3.0
2.0 Company
1.0
0.0
2006 2007 2008 2009 2010

Profit margin
(percent)
10%
9%
8%
7%
6% Industry average
5%
4%
3%
2% Company
1%
0
2006 2007 2008 2009 2010

period are not very meaningful to a company that primarily does a cash receipts business.
Key financial ratios can be classified into the following five types:
1. Liquidity ratios measure a firm’s ability to meet maturing short-term obligations.
Current ratio
Quick (or acid-test) ratio
2. Leverage ratios measure the extent to which a firm has been financed by debt.
Debt-to-total-assets ratio
Debt-to-equity ratio
Long-term debt-to-equity ratio
Times-interest-earned (or coverage) ratio
3. Activity ratios measure how effectively a firm is using its resources.
Inventory turnover
Fixed assets turnover
Total assets turnover
Accounts receivable turnover
Average collection period
4. Profitability ratios measure management’s overall effectiveness as shown by the
returns generated on sales and investment.
Gross profit margin
Operating profit margin
Net profit margin
Return on total assets (ROA)
Return on stockholders’ equity (ROE)
Earnings per share (EPS)
Price-earnings ratio