Final answer:
The 5 question approach to using financial ratios is a method used to evaluate a company's financial health and performance. It involves analyzing different aspects of the company's financial statements such as liquidity, solvency, profitability, efficiency, and investment. By using specific ratios, this approach provides valuable insights into the company's financial condition.
Step-by-step explanation:
The 5 question approach to using financial ratios is a method used to evaluate a company's financial health and performance. These questions help analyze different aspects from the financial statements and provide insights into the company's liquidity, solvency, profitability, and efficiency. The five questions are:
- Liquidity: How easily a company can meet its short-term obligations? This can be assessed by using ratios like the current ratio and quick ratio.
- Solvency: Is the company financially stable and able to meet its long-term obligations? Ratios such as debt to equity ratio and interest coverage ratio can be used to evaluate solvency.
- Profitability: How well is the company generating profits? Profit margin, return on assets, and return on equity are some ratios used to measure profitability.
- Efficiency: How effectively is the company utilizing its resources? Efficiency ratios like inventory turnover and asset turnover can provide insights into this.
- Investment: Is the company a good investment option? Ratios such as price-to-earnings ratio and dividend yield can help assess the investment potential.