Returns on assets and equity relate profits to the investment used to produce them. Because profits are the basic long-term source of any company's cash flows, profitability is an important gauge of credit quality. Coverage ratios measure a company's ability to pay interest and repay principal, the company's fixed financial charges. They show how much margin of error a company has in meeting its periodic debt payments when they come due. They are the most direct measures of a company's debt service capability.
Leverage ratios measure the amount of debt in a company's capital structure.
They are also indirect indicators of the extent of the company's fixed financial charges. Using debt to finance a company's operations increases shareholder returns, but by adding fixed financial charges it also increases risk. There are other types of ratios used by financial analysts. Liquidity ratios measure a company's ability to meet maturing short-term obligations with current assets, and they are especially useful for companies with seasonal borrowing needs. Activity ratios measure how efficiently a company uses its resources.