What is the primary purpose of financial ratios?

The primary purpose of financial ratios is to analyze a company's financial performance and health. Financial ratios provide a quantitative analysis that helps stakeholders, including management, investors, and creditors, assess the operational efficiency, profitability, liquidity, and solvency of a business. By comparing these ratios over time or against industry benchmarks, one can gain insights into how well the company is performing financially and identify areas for improvement or concern.

For example, liquidity ratios like the current ratio or quick ratio reveal how easily a company can meet its short-term obligations, while profitability ratios like net profit margin indicate how efficiently the company generates profit relative to its revenues. By using financial ratios, stakeholders can make informed decisions based on the company's financial status and operational efficiency, which is essential for long-term planning and investment strategies.