Financial statements are intimidating so it is no surprise that many business owners do not even attempt to calculate financial ratios. Accounting and finance are two courses most students try to avoid or at least struggle to get through, especially when your instructors require you to memorize ratios.

But, ratios can help you identify trends early allowing you time to take corrective action. There are many places on the web to find explanations on how to calculate ratios as well as explanations as to what they mean. A few of my favorite liquidity (short-term) ratios are:

1. Current Ratio (calculated as current assets divided by current liabilities) – this ratio will tell you what your current asset ratio is to your current liabilities. If you needed to pay a vendor or bank quickly, you will need to have liquid assets that you can convert to cash.

2. Receivables Turnover (calculated as Net Credit Sales divided by Average Gross Receivables) – Net Credit Sales are those sales that are made on credit, not credit cards, but the credit your company extends to clients. Average Gross Receivables is the average of the last two years of Gross Receivables. This ratio tells you how many times per year you are collecting your outstanding accounts receivable. The higher the number the better. To convert this into days take the result from the Receivables Turnover and divide by 365 days.

3. Inventory Turnover (calculated as Cost of Goods Sold divided by Average Inventory) – This ratio, like the Receivables Turnover ratio, will tell you how many times per year your inventory turns. Again, the higher the number the better. To convert this into the number of days your inventory is sitting on the shelf take the result and divide by 365 days.

The benefits of ratios cannot be overstated. Just reading your financial statements each month is a good start, but will not give you all of the information you need to make quick changes to your business.