Italy Ratio analysis

[Ania]

I am a manager in a company that manufactures and supplies agricultural equipment, I need to find a new supplier as the one that I used to buy for making my main product has ceased trading. I nedd to find at least 5 ratios that could help me to choose between 3 new companies.

 

[Fidget]

Well, if the current one has ceased trading, you're going to want a replacement that looks like it's going to continue trading. What info have you been given on the prospective replacement companies?

 

[Ania]

I do not have any information of the companies, I just need to explain 5 of ratios that will help me to understand which one will be the best for my company and explain as well as which are the limitations of them.

I am thinking to use for profitability between them: Return on assets, Return on equity, gross profit margin and Net profit margin.

For liquidity : Current ratio, quick ratio, net working capital ratio.
and activity ratios: Accounts receivable turnover, accounts payable turnover and inventory turnover.

But I am honestly struggling to expalin the limitation of the ratios...

 

[Fidget]

Pick a set of published accounts from a random company where you live and see which of those ratios you'll be able to do. You'll find that you can do some, but not others. Easy if it's for a company that you're employed in because you have access to all the information you need. But when it comes to looking at other companies, it's harder to do it. That's because organisations don't want to give away anything that they don't have to. So that's a limitation - you don't know the full detail of what a number is made up of that you're using in your ratio.

Another limitation is that the numbers you're using are a snapshot in time, based on historical data. You don't know what's around the corner for that company. So they can't be used on their own to make any decisions.

There's a couple for you, but a quick net search will likely churn out lots more ideas for you.