The main purpose of this study is to examine the validity and the reliability of financial ratios in an international comparison. The relationship between international accounting practices and the comparability of financial ratios will be considered. The goal of this study is to find out which financial ratios are the most appropriate tools in the international context, i.e. when comparing companies operating in different countries. Two different aspects will be considered:

1) Differences in the relationships underlying financial ratios across countries and 2) Differences in the values of financial ratios across countries.

The main purpose of the theoretical part of the study is to analyse the validity and the reliability of different financial ratios. An analysis of the connection between the accounting practices and financial ratios is carried out. The results of the theoretical analysis show that it is difficult to find out profitability ratios which are not at all affected by the international accounting diversity. In the case of the other financial ratios it is easier to find those which are not affected appreciably by the international accounting diversity.

In the first part of the empirical study the aim is to find out whether different financial ratios (which belong to the same a priori financial ratio class) are indicators of the same economic properties of a company. Financial ratio classifications for 16 ratios in 8 countries are carried out and compared to each other. The factors of profitability and efficiency are easily identified in the different countries. The empirical findings indicated also that these factors were connected across the countries. The identification of the liquidity and the solvency factors seems to be unclear in most of the countries. In the second part of the empirical study level differences across the countries in Financial ratios are studied. Empirical results revealed that there are significant differences across the countries in most of the examined Financial ratios.

The obtained results indicated that the validity of financial ratios is a more important factor than the reliability. Poor reliability usually has no informationally significant effects in financial ratio analysis. It is more a question of naive measurement accuracy in financial ratio analysis. It is more reasonable to concentrate on informational aspects and emphasize the validity of financial ratio. Based on the results of this research the following financial ratios are the most appropriate tools in the international context. In the class of profitability the Return on Assets and the Operating Margin are safe choices. The static liquidity ratio Quick Ratio and the dynamic liquidity ratio Defensive Interval is a very good pair in the evaluation of the liquidity. The corresponding solvency indicators are the Equity to Capital and the Interest Coverage. Based on these results it is reasonable to use all four efficiency ratios or select the most appropriate indicator depending on a purpose of the use.

Janne Lehtinen, Department of Accounting and Finance, Faculty of Accounting and Industrial Management, University of Vaasa, P.O.Box 700, FIN-65101 Vaasa, Finland.

Keywords: International accounting, financial ratio analysis, classification of financial ratios, validity of financial ratios, reliability of financial ratios.