16 Financial Ratios Every Accountant Should Know
Profitability, liquidity, leverage and efficiency ratios with formulas, what each tells you, and how auditors use them in analytical procedures.
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Ratios turn the financial statements into comparisons. On their own they are numbers; against last year, a budget, a loan covenant or industry peers, they tell a story. Auditors use them in planning and review analytical procedures, so computing them first saves questions later.
Profitability
| Ratio | Formula | Shows |
|---|---|---|
| Gross margin | (Revenue − COGS) ÷ Revenue | Margin after direct costs |
| Operating margin | Operating profit ÷ Revenue | Profit from operations |
| Net profit margin | Net profit ÷ Revenue | What's left for owners |
| Return on assets | Net profit ÷ Total assets | Profit from what you own |
| Return on equity | Net profit ÷ Equity | Return on owners' investment |
Falling gross margin with stable prices often means rising costs or stock leakage; a jump may mean cut-off errors. See profit margin vs markup.
Liquidity
| Ratio | Formula | Shows |
|---|---|---|
| Current ratio | Current assets ÷ Current liabilities | Short-term cover |
| Quick ratio | (Current assets − Inventory) ÷ Current liabilities | Cover without stock |
| Cash ratio | Cash ÷ Current liabilities | Immediate cover |
| Working capital | Current assets − Current liabilities | Cushion in currency |
Above 1× means short-term assets cover short-term debts, but a very high ratio can mean idle cash or slow-moving stock.
Leverage
| Ratio | Formula | Shows |
|---|---|---|
| Debt-to-equity | Total liabilities ÷ Equity | Debt relative to owners' funds |
| Debt ratio | Total liabilities ÷ Total assets | Share financed by creditors |
| Interest cover | Operating profit ÷ Interest | Ability to service debt |
Lenders often set covenants on interest cover and debt-to-equity, so a breach is a going-concern consideration (ISA 570).
Efficiency
| Ratio | Formula | Shows |
|---|---|---|
| Asset turnover | Revenue ÷ Total assets | Revenue per unit of assets |
| Receivable days | Receivables ÷ Revenue × 365 | How fast customers pay |
| Inventory days | Inventory ÷ COGS × 365 | How long stock sits |
| Payable days | Payables ÷ COGS × 365 | How long you take to pay |
Together, inventory days + receivable days − payable days give the cash conversion cycle.
Using ratios well
- Compare, don't judge. A 5% net margin is poor for software and healthy for grocery.
- Use averages of opening and closing balances where the business is seasonal.
- Look at trends across at least three periods.
- Ask why whenever a ratio moves more than expected — that is exactly where auditors start.
Calculate the whole pack
Enter your income statement and balance sheet figures into the free Financial Ratio Calculator to get all sixteen at once, with a balance check on your inputs. For specific ratios, see the Current Ratio Calculator and EBITDA Calculator.
The statements behind the ratios must be right first. Pyalm Books produces Profit & Loss, Balance Sheet and Cash Flow from one double-entry ledger, free during beta. If you're setting materiality from these figures, read audit materiality explained.
Standards, rates and deadlines change. Confirm the current position with the relevant authority or a qualified adviser before you rely on it.