Liquidity Ratio 000
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Transcript of Liquidity Ratio 000
Liquidity Ratios
1. Acid Test Ratio
Acid Test Ratio = (cash + marketable securities) / current liabilities
The acid test ratio measures the immediate amount of cash
immediately available to satisfy short term debt.
2. Accounts Payable Turnover Ratio
Accounts Payable Turnover Ratio = total supplier purchases / average
accounts payable
The accounts payable turnover ratio shows the number of times that
accounts payable are paid throughout the year.
A falling accounts payable turnover ratio indicates that the company is
taking longer to pay its suppliers
3. Cash Ratio
Cash Ratio = cash / current liabilities
The cash ratio (cash and marketable securities to current liabilities
ratio) measures the immediate amount of cash available to satisfy
short term debt.
4. Cash Debt Coverage Ratio
Cash Debt Coverage = (cash flow from operations - dividends) / total
debt.
The cash debt coverage ratio shows the percent of debt that current
cash flow can retire.
A cash debt coverage ratio of 1:1 (100%) or greater shows that the
company can repay all debt within one year.
5. Current Ratio
Current ratio = current assets / current liabilities.
The current ratio is used to evaluate the liquidity, or ability to meet
short term debts.
High current ratios are needed for companies that have difficulty
borrowing on short term notice.
The generally acceptable current ratio is 2:1
The minimum acceptable current ratio is 1:1
The current ratio is included in all the ratio calculating programs, which
provide formula, definition and calculation of each ratio.
6. Debt Income Coverage Ratio
Debt Income Ratio = total debt / net income
Long Term Debt Ratio = long term debt / net income
The debt income ratio shows debt as a portion of net income.
The debt income ratio shows the amount of total debt in proportion to
net income.
The debt income ratio is the inverse of the years debt ratio, which
shows the number of years it will take to pay off all debt and replace
assets when due (assuming no dividends are paid). The long term debt
ratio shows the number of years to retire long term debt from net
income.
7. Debt Service Coverage Ratio
Debt Service Coverage Ratio = net operating income / (interest +
current portion of LTD)
The debt service coverage ratio is also known as the debt coverage
ratio, debt service capacity ratio or DSCR.
The debt service coverage ratio shows the ability to meet annual
interest and debt repayment obligations.
A debt service coverage ratio of less than 1:1 means that it does not
have sufficient income to meet its debt demands.
8. Long Term Debt to Shareholders Equity (Gearing) Ratio
Gearing Ratio = long term debt / shareholders equity.
The long term debt to shareholders equity ratio is also referred to as
the gearing ratio.
A high gearing ratio is unfavorable because it indicates possible
difficulty in meeting long term debt obligations.
9. Quick Assets
Quick Assets = cash + marketable securities + accounts receivable.
Quick assets are the amount of assets that can be quickly converted to
cash. Quick assets are used to determine the quick ratio and days of
liquidity ratio.
10. Quick Ratio
Quick ratio = (cash + marketable securities + accounts receivable) /
current liabilities.
The quick ratio is used to evaluate liquidity.
Higher quick ratios are needed when a company has difficulty
borrowing on short term notice
A quick ratio of over 1:1 indicates that if the sales revenue
disappeared, the business could meet its current obligations with the
readily available "quick" funds on hand.
A quick ratio of 1:1 is considered satisfactory unless the majority of
"quick assets" are in accounts receivable and the company has a
pattern of collecting accounts receivable slower than paying accounts
payable.
11. Working Capital
Working Capital = current assets - current liabilities.
Working Capital Ratio = current assets / current liabilities
The working capital ratio is also referred to as the current ratio. See
current ratio definition and explanation.
Working capital is the liquid reserve available to satisfy contingencies
and uncertainties.
A high working capital balance is needed if the business is unable to
borrow on short notice.
Banks look at working capital over time to determine a company's
ability to weather financial crises.
Loans often specify minimum working capital requirements
12. Working Capital from Operations to Total Liabilities
Working Capital from Operations to Total Liabilities = working capital
provided from operations / current liabilities
This ratio measures the degree by which internally generated working
capital is available to satisfy obligations.
13. Working Capital Provided by Net Income
Working Capital Provided by Net Income = Net income - depreciation
A high ratio indicates that a company's liquidity position is improved
because net profits result in liquid funds.
Efficiency Ratios
1. Accounts Receivable Turnover Ratio
Accounts Receivable Turnover Ratio = annual credit sales / average
accounts receivable
This is the ratio of the number of times that accounts receivable
amount is collected throughout the year.
A high accounts receivable turnover ratio indicates a tight credit policy.
A low or declining accounts receivable turnover ratio indicates a
collection problem, part of which may be due to bad debts
2. Age of Inventory Ratio
Age of Inventory = 365 days / inventory turnover ratio
The Age of Inventory shows the number of days that inventory is held
prior to being sold.
An increasing age of inventory ratio indicates a risk in the company's
inability to sell its products. Individual inventory items should be
examined for obsolete or overstocked items.
A decreasing age of inventory may represent under-investment in
inventory.
The Age of Inventory Ratio is also referred to as the Number of Days
Inventory, Days Inventory or Inventory Holding Period.
3. Collection Period (or Average Collection Period) Ratio
Collection Period = Accounts Receivable X 365 days
Credit Sales
Collection Period = 365 days
Accounts Receivable Turnover Ratio
The average collection period calculation uses the average accounts
receivable over the sales period.
The collection period or average collection period must be compared to
competitors to see whether the credit given, and customer risk, is in
line with the industry.
A high collection period shows a high cost in extending credit to
customers.
4. Average Inventory Period Ratio
Average Inventory Period = (inventory x 365 days) / cost of sales.
The average inventory period is also referred to as Days Inventory and
Inventory Holding Period.
This ratio calculates the average time that inventory is held.
Individual inventories should be looked at to find areas where the
inventory, and inventory holding period, can be reduced.
The average inventory period should be compared to competitors
5. Average Obligation Period Ratio
Average Obligation Period = accounts payable / average daily
purchases.
The average obligation period ratio measures the extent to which
accounts payable represents current obligations (rather than overdue
ones).
6. Bad Debts Ratio
Bad Debts Ratio = bad debts / accounts receivable.
The bad debts ratio is an overall measure of the possibility of the
business incurring bad debts.
The higher the bad debts ratio, the greater the cost of extending
credit.
7. Breakeven Point
Breakeven Point = fixed costs / contribution margin.
The breakeven point is the point at which a business breaks even
(incurs neither a profit nor a loss)
The breakeven point is the minimum amount of sales required to make
a profit.
Increasing breakeven points (period to period) indicates an increase in
the risk of losses.
8. Cash Breakeven Point
Cash Breakeven Point = (fixed costs - depreciation) / contribution
margin per unit.
The cash breakeven point indicates the minimum amount of sales
required to contribute to a positive cash flow.
9. Cash Dividend Coverage Ratio
Cash Dividend Coverage = (cash flow from operations) / dividends.
The cash dividend coverage ratio reflects the company's ability to
meet dividends from operating cash flow.
A cash dividend coverage ratio of less than 1:1 (100 %) indicates that
dividends are draining more cash from the business than it is
generating.
10. Cash Maturity Coverage Ratio
Cash Maturity Coverage = (cash flow from operations - dividends) /
current portion of long term maturities.
The cash maturity coverage ratio indicates the ability to repay long
term maturities as they mature.
The cash maturity coverage ratio indicates whether long term debt
maturities are in time with operating cash flow.
11. Cash Reinvestment Ratio
Cash Reinvestment Ratio = increases in fixed assets and working
capital / (net income + depreciation).
This ratio indicates the degree to which net income is absorbed
(reinvested) in the business.
A cash reinvestment ratio of greater than 1:1 (100%) indicates that
more cash is being use4d in the business than being obtained.
12. Cash Turnover Ratio
Cash Turnover = (cost of sales {excluding depreciation}) / cash.
Cash Turnover Ratio = (365 days)/ cash balance ratio.
The cash turnover ratio indicates the number of times that cash turns
over in a year.
13. Collection Period to Payment Period Ratio
Collection Period to Payment Period = collection period / payment
period.
The collection period to payment period above 1:1 (100%) indicates
that suppliers are being paid more rapidly than the company is
collecting from their customers.
14. Days of Liquidity Ratio
Days of Liquidity = (quick assets x 365 days) / years cash expenses.
The days of liquidity ratio indicates the number of days that highly
liquid assets can support without further cash coming from cash sales
or collection of receivables.
15. Fixed Charge Coverage Ratio
Fixed Charge Coverage Ratio = (Net Income Before Interest and Taxes
+ interest + fixed costs) / fixed costs.
The fixed charge coverage ratio indicates the risk involved in ability to
pay fixed costs when business activity falls.
16. Margin of Safety Ratio
Margin of Safety Ratio = (expected sales - breakeven sales) /
breakeven sales.
The margin of safety ratio shows the percent by which sales exceed
the breakeven point.
17. Revenue per Employee / Net Sales per Employee
Revenue per employee (net sales per employee) = net sales / number
of employees
This ratio indicates the average revenue generated per person
employed.
18. Number of Days Inventory Ratio
Number of Days Inventory = 365 days / inventory turnover ratio.
The number of day’s inventory is also known as average inventory
period and inventory holding period.
A high number of days inventory indicates that their is a lack of
demand for the product being sold.
A low days inventory ratio (inventory holding period) may indicate that
the company is not keeping enough stock on hand to meet demands.
19. Operating Cycle Ratio
Operating Cycle = age of inventory + collection period.
The operating cycle is the number of days from cash to inventory to
accounts receivable to cash.
The operating cycle reveals how long cash is tied up in receivables and
inventory.
A long operating cycle means that less cash is available to meet short
term obligations.
20. Payment Period Ratio
Payment Period = (365 days x supplies payable) / inventory.
The payment period indicates the average period for paying debts
related to inventory purchases.
21. Payment Period to Average Inventory Period Ratio
Payment Period to Average Inventory Period = payment period /
average inventory period
A payment period to average inventory period above 1:1 (100%)
indicates that the inventory is sold before it is paid for (inventory does
not need to be financed).
(The average inventory period is also known as the inventory holding
period)
22. Payment Period to Operating Cycle Ratio
Payment Period to Operating Cycle = payment period / (average
inventory period + collection period).
A payment period to operating cycle ratio above 1:1 (100%) indicates
that the inventory is sold and collected before it is paid for (inventory
does not need to be financed).
A high payment period to operating cycle ratio indicates that the
company may be vulnerable to tightened terms of payments from their
suppliers.
(The average inventory period is also known as the inventory holding
period)
Profitability Ratios
1. Cash Debt Coverage Ratio
Cash Debt Coverage = (cash flow from operations - dividends) / total
debt.
The cash debt coverage ratio shows the percent of debt that current
cash flow can retire.
A cash debt coverage ratio of 1:1 (100%) or greater shows that the
company can repay all debt within one year.
2. Cash Return on Assets Ratios
Cash Return on Assets (excluding interest) = (cash flows from
operations before interest and taxes) / total assets.
Cash Return on Assets (including interest) = (cash flow from
operations) / total assets.
A higher cash return on assets ratio indicates a greater cash return.
The cash return on assets (excluding interest) contains no provision for
replacing assets or future commitments.
The cash return on assets (including interest) indicates internal
generation of cash available to creditors and investors.
3. Cash Return to Shareholders Ratio
Cash Return to Shareholders = cash flow from operations /
shareholders equity
The cash return to shareholders ratio indicates a return earned by
shareholders.
4. Contribution Margin and Contribution Margin Ratio
Contribution Margin = sales - variable costs.
Contribution Margin Ratio = (sales - variable costs)/sales.
Contribution margin is the amount generated by sales to cover fixed
costs.
The contribution margin ratio indicates the percent of sales available to
cover fixed costs and profits.
Current Return on Training and Development
Current Return on Training and Development = increase in productivity
and knowledge contribution / training costs
This ratio is a general indicator of the current return on training and
development.
5. Gross Profit Margin Ratio (Gross Margin Ratio)
Gross Profit Margin Ratio = gross profit / sales.
Gross profit margin ratio is also called gross margin ratio.
To calculate gross profit subtracts cost of sales (variable costs) from
sales. (I.e. gross profit = sales - cost of sales)
A low gross profit margin ratio (or gross margin ratio) indicates that
low amount of earnings, required to pay fixed costs and profits, are
generated from revenues.
A low gross profit margin ratio (or gross margin ratio) indicates that the
business is unable to control its production costs.
The gross profit margin ratio (or gross margin ratio) provides clues to
the company's pricing, cost structure and production efficiency.
The gross profit margin ratio (or gross margin ratio) is a good ratio to
benchmark against competitors.
6. Operating Margin Ratio
Operating Margin = net profits from operations / sales.
The operating margin is also referred to as operating profit margin, or
EBIT to sales ratio.
The operating margin ratio determines whether the fixed costs are too
high for the production volume.
7. Profit Margin Ratios
Net Profit Margin Ratio (After Tax Margin Ratio) = net profit after tax /
sales.
Pretax Margin Ratio = net profit before taxes / sales.
Operating Profit Margin (Operating Margin) = net income before
interest and taxes / sales.
These three profit margin ratios state how much profit the company
makes for every dollar of sales.
The net profit margin ratio is the most commonly used profit margin
ratio.
Low profit margin ratios indicate that low amount of earnings, required
to pay fixed costs and profits, are generated from revenues.
A low profit margin ratio indicates that the business is unable to control
its production costs.
The profit margin ratio provides clues to the company's pricing, cost
structure and production efficiency.
The profit margin ratio is a good ratio to benchmark against
competitors.
8. Return on Assets Ratio
Return on Assets = net profit before taxes / total assets.
The return on assets ratio provides a standard for evaluating how
efficiently financial management employs the average dollar invested
in the firm's assets, whether the dollar came from investors or
creditors.
A low return on assets ratio indicates that the earnings are low for the
amount of assets.
The return on assets ratio measures how efficiently profits are being
generated from the assets employed.
A low return on assets ratio compared to industry averages indicates
inefficient use of business assets.
9.Return on Common Equity Ratio
Return on Common equity = (net profit - preferred share dividends) /
(shareholders equity- preferred shares).
The return on common equity ratio shows the return to common
stockholders after factoring out preferred shares.
A return of over 10% indicates enough to pay common share dividends
and retain funds for business growth.
10. Return on Investment Ratio
Return on Investment Ratio = net profits before tax / shareholders
equity.
The return on investment ratio provides a standard return on investor's
equity.
The return on investment ratio is also referred to as return on
investment or ROI.
Return on Investment is a key ratio for investors.
11. Return on Sales Ratio
Return on Sales = Net Profit / Sales
12. Times Interest Earned Ratio
Times Interest Earned Ratio = (net income + interest) / interest.
The times interest earned ratio indicates the extent of which earnings
are available to meet interest payments.
A lower times interest earned ratio means less earnings are available
to meet interest payments and that the business is more vulnerable to
increases in interest rate.
Turnover Ratio
1. Accounts Payable Turnover Ratio
Accounts Payable Turnover Ratio = total supplier purchases / average
accounts payable
The accounts payable turnover ratio shows the number of times that
accounts payable are paid throughout the year.
A falling accounts payable turnover ratio indicates that the company is
taking longer to pay its suppliers.
2. Accounts Receivable Turnover Ratio
Accounts Receivable Turnover Ratio = annual credit sales / average
accounts receivable
This is the ratio of the number of times that accounts receivable
amount is collected throughout the year.
A high accounts receivable turnover ratio indicates a tight credit policy.
A low or declining accounts receivable turnover ratio indicates a
collection problem, part of which may be due to bad debts.
3. Asset Turnover Ratio
Asset Turnover Ratio = sales / fixed assets.
A low asset turnover ratio means inefficient utilization or obsolescence
of fixed assets, which may be caused by excess capacity or
interruptions in the supply of raw materials.
4. Cash Turnover Ratio
Cash Turnover = (cost of sales {excluding depreciation}) / cash.
Cash Turnover Ratio = (365 days)/ cash balance ratio.
The cash turnover ratio indicates the number of times that cash turns
over in a year.
5. Inventory Conversion Ratio
Inventory Conversion Ratio = (sales x 0.5) / cost of sales.
The inventory conversion ratio indicates the extra amount of borrowing
that is usually available upon the inventory being converted into
receivables.
6. Inventory Turnover Ratio
Inventory Turnover Ratio = cost of goods sold / average inventory.
The inventory turnover ratio measures the number of times a company
sells its inventory during the year.
A high inventory turnover ratio indicated that the product is selling
well.
The inventory turnover ratio should be done by inventory categories or
by individual product.
Leverage Ratios
1. Capital Acquisition Ratio
Capital Acquisition Ratio = (cash flow from operations - dividends) /
cash paid for acquisitions.
The capital acquisition ratio reflects the company's ability finance
capital expenditures from internal sources.
A ratio of less than 1:1 (100 %) indicates that capital acquisitions are
draining more cash from the business than it is generating.
2. Capital Employment Ratio
Capital Employment Ratio = sales / (owners equity - non-operating
assets).
The capital employment ratio is also referred to as the capital
employed ratio.
The capital employment ratio shows the amount of sales which
owner's investment in operations generates.
3. Capital Structure Ratio
Capital Structure Ratio = long term debt / (shareholders equity + long
term debt).
The capital structure ratio shows the percent of long term financing
represented by long term debt.
A capital structure ratio over 50% indicates that a company may be
near their borrowing limit (often 65%).
4. Capital to Non-Current Assets Ratio
Capital to Non-Current Assets Ratio = owners equity / non-current
assets
A higher capital to non-current assets ratio indicates that it is easier to
meet the business' debt and creditor commitments
5. Cash Balance Ratio
Cash Balance = (cash x 365 days) / (cost of sales [excluding
depreciation])
The Cash Balance Ratio is also referred to as Days Cash Balance.
The cash balance ratio indicates the number of days that a company
can pay its debts, as they become due, out of current cash.
6. Debt to Assets Ratio
Debt to Assets = total debt / total assets
The debt to assets ratio indicates the extent to which assets are
encumbered with debt.
A debt to assets ratio over 65% indicates excessive debt
7. Debt to Equity Ratio (Financial Leverage Ratio)
Debt to Equity Ratio = Short Term Debt + Long Term Debt /
Total Shareholders Equity
Debt to Equity Ratio is also referred to as Debt Ratio, Financial
Leverage Ratio or Leverage Ratio.
The debt to equity (debt or financial leverage) ratio indicates the
extent to which the business relies on debt financing.
Upper acceptable limit of the debt to equity (debt or financial leverage)
ratio is usually 2:1, with no more than one-third of debt in long term.
A high financial leverage or debt to equity ratio indicates possible
difficulty in paying interest and principal while obtaining more funding.
8. Debt Ratio
Debt Ratio = liabilities / assets
The debt ratio is also known as the debt to capital ratio, debt to equity
ratio or financial leverage ratio.
The debt ratio shows the reliance on debt financing.
A high debt ratio is unfavorable because it indicates that the company
is already overburdened with debt.
9. Defensive Interval Period Ratio
Defensive Interval Period = (cash + marketable securities + accounts
receivable) / average daily purchases.
This ratio indicates how long a business can operate on its liquid assets
without needing further revenues.
The defensive interval period reveals near-term liquidity as a basis to
meet expenses.
10. Equity Multiplier Ratio
Equity Multiplier = total assets / shareholders equity.
The equity multiplier ratio discloses the amount of investment
leverage.
11. Financial Leverage Ratio
Financial Leverage Ratio = total debt / shareholders equity.
The financial leverage ratio is also referred to as the debt to equity
ratio.
The financial leverage ratio indicates the extent to which the business
relies on debt financing.
Upper acceptable limit of the financial leverage ratio is usually 2:1,
with no more than one-third of debt in long term.
A high financial leverage ratio indicates possible difficulty in paying
interest and principal while obtaining more funding.
12. Fixed Assets to Short Term Debt Ratio
Fixed Assets to Short Term Debt = fixed assets / (accounts payable +
current portion of long term debt).
The fixed assets to short term debt ratio can indicate dangerous
financial policies due to business vulnerability in a tight money market.
A low fixed asset to short term debt ratio indicates the return on fixed
assets may not be realized before long term liabilities mature.
13. Fixed Costs to Total Assets Ratio
Fixed costs to total assets = fixed costs / total assets
An increase in the fixed costs to total assets ratio may indicate higher
fixed charges, possibly resulting in greater instability in operations and
earnings.
14. Fixed Coverage Ratio
Fixed coverage = earnings before interest and taxes / fixed charges
before taxes.
The fixed coverage ratio indicates the ability of a business to pay fixed
charges (fixed costs) when business activity falls.
15. Debt to Equity Ratio (Financial Leverage Ratio)
Debt to Equity Ratio = Short Term Debt + Long Term Debt /
Total Shareholders Equity
Debt to Equity Ratio is also referred to as Debt Ratio, Financial
Leverage Ratio or Leverage Ratio.
The debt to equity (debt or financial leverage) ratio indicates the
extent to which the business relies on debt financing.
Upper acceptable limit of the debt to equity (debt or financial leverage)
ratio is usually 2:1, with no more than one-third of debt in long term.
A high financial leverage or debt to equity ratio indicates possible
difficulty in paying interest and principal while obtaining more funding.
16. Interest Coverage Ratio
Interest Coverage Ratio = (net income + interest) / interest.
The interest coverage ratio is also referred to as the times interest
earned ratio.
The interest coverage ratio indicates the extent of which earnings are
available to meet interest payments.
A lower interest coverage ratio means less earnings are available to
meet interest payments and that the business is more vulnerable to
increases in interest rates.
17. Debt to Equity Ratio (Financial Leverage Ratio)
Debt to Equity Ratio = Short Term Debt + Long Term Debt /
Total Shareholders Equity
Debt to Equity Ratio is also referred to as Debt Ratio, Financial
Leverage Ratio or Leverage Ratio.
The debt to equity (debt or financial leverage) ratio indicates the
extent to which the business relies on debt financing.
Upper acceptable limit of the debt to equity (debt or financial leverage)
ratio is usually 2:1, with no more than one-third of debt in long term.
A high financial leverage or debt to equity ratio indicates possible
difficulty in paying interest and principal while obtaining more funding.
18. Long Term Debt to Shareholders Equity Ratio
Gearing Ratio = long term debt / shareholders equity.
A high gearing ratio is unfavorable because it indicates possible
difficulty in meeting long term debt obligations.
19. Non-Current Assets to Non-Current Liabilities Ratio
Non-Current Assets to Non-Current Liabilities = non-current assets /
non-current liabilities
This ratio indicates protection (collateral) for long term creditors.
A lower ratio means that there is a lower amount of assets backing
long term debt.
20. Operating Leverage Ratio
Operating Leverage = percent change in EBIT / percent change in
sales.
The operating leverage reflects the extent to which a change in sales
affects earnings.
A high operating leverage ratio, with a highly elastic product demand,
will cause sharp earnings fluctuations.
21. Retained Earnings to Total Assets Ratio
Retained Earnings to Total Assets = retained earnings / total assets
This ratio indicates the extent to which assets have been paid for by
company profits.
Retained earnings to total assets ratio near 1:1 (100%) indicates that
growth has been financed through profits, not increased debt.
A low ratio indicates that growth may not be sustainable as it is
financed from increasing debt, instead of reinvesting profits.
22. Short Term Debt to Depreciation Ratio
Short Term Debt to Depreciation = current portion of long term debt /
depreciation
A short term debt to depreciation ratio of close to 1:1 (100%) indicates
that the repayment of long term debt is in line with the life of the
assets.
This ratio should be in line with inflation in fixed asset prices
23. Short Term Debt to Liabilities Ratio
Short Term Debt to Liabilities = (accounts payable + current portion of
long term debt) / (accounts payable + long term debt)
This ratio indicates liquidity. A higher ratio means less liquidity.
24. Short to Long Term Debt Ratio
Short Term Debt to Long Term Debt = current portion of long term
debt / long term debt.
The short to long term debt ratio can indicate if a business is
vulnerable to a money market squeeze.
Cash Flow Ratios
1. Cash Flow from Operations to Net Income Ratio
Cash Flow from Operations to Net Income = (cash flow from
operations) / net income
The cash flow from operations to net incomes ratio indicates the extent
to which net income generates cash in a business.
A decline in the cash flow from operations to net income ratio indicates
a cash flow problem.
The cash flow from operations to net income ratio is included in the
financial statement ratio analysis spreadsheets highlighted in the left
column, which provide formulas, definitions, calculation, charts and
explanations of each ratio.
2. Cash Flow for Investing to Cash Flows from Operating and
Financing
Cash Flow from Investing to Operating and Financing = cash flows
from investing / (cash flows fro operations + cash flows from financing)
This ratio compares the funds needed for investment to the funds
obtained from financing and operations.
The ratio of cash flow for investing to cash flows from financing and
operations is included in the financial statement ratio analysis
spreadsheets highlighted in the left column, which provide formulas,
definitions, calculation, charts and explanations of each ratio.
3. Cash Flows for Investing vs. Financing Ratio
Cash Flow for Investing vs. Financing = (net cash flows - current
portion of long term debt) / (net cash flows from operating and
financing activities)
The cash flow for investing vs. financing compares funds needed for
investment to the funds obtained from financing and operations
4. Cash Flow from Sales to Sales Ratio
Cash Flow from Sales to Total Sales = (cash flow from operations -
dividends) / total sales
The cash flow from sales to sales ratio indicates the degree to which
sales generate cash retained by the business.
A positive cash flow from sales to sales ratio means that sales are
generating cash flow.
5. Cash Flow Coverage Ratio
Cash Flow Coverage Ratio = net income + depreciation and
amortization/total debt payments.
The cash flow coverage ratio indicates the ability to make interest and
principal payments as they become due.
A cash flow coverage ratio of less than one indicates bankruptcy within
two years.
6. Cash Flow to Long Term Debt Ratio
Cash Flow to Long Term Debt = cash flow / long term debt
The cash flow to long term debt ratio appraises the adequacy of
available funds to pay obligations.
7. Cash Flow from Operations to Current Portion of Long
Term Debt
Cash Flow from Operations to Current Portion of LTD = cash flow from
operations / current portion of long term debt
This ratio indicates the ability to retire debt as currently structured.
A ratio of less than 1:1 (100%) indicates that debt is structured to be
repaid quicker than the company has the ability to.
8. Net Cash
Net Cash = net profit + depreciation + amortization
Net cash is also called cash flow.
It reflects how much cash the business generates.
9. Net Cash Flows for Investing Ratio
Net Cash Flow for Investing = (purchase of fixed assets and
securities) / net cash flows from financing activities.
The net cash flows for investing ratio determine the adequacy of debt
and equity issuances.
10. Operations Cash Flow to Current Liabilities Ratio
Operations Cash Flow to Current Liabilities = cash flow from operations
/ current liabilities
If the operations cash flow to current liabilities ratio keeps increasing,
it may indicate that cash inflows are increasing and need to be
invested.
11. Operations Cash Flow Plus Fixed Charges to Fixed
Charges Ratio
Operations Cash Flow Plus Fixed Charges to Fixed Charges = (cash
flow from operations + fixed cost) / fixed costs
This ratio indicates the risk involved when business activity, and ability
to pay fixed costs, falls.
12. Operations Cash Flow Plus Interest to Interest Ratio
Operations Cash Flow Plus Interest to Interest = (cash flow from
operations + interest) / interest
This ratio indicates the cash actually available to meet interest
charges.
A ratio of less than 1:1 (100%) indicates insufficient cash flow is being
generated to meet current interest payments.
Sales Ratios
1. Sales to Accounts Payable Ratio
Sales to Accounts Payable = Sales / accounts payable
A high sale to accounts payable ratio indicates the inability to obtain
short-term credit on the form of cost-free funds to finance sales
growth.
2. Sales to Break-even Point Ratio
Sales to Break-even (or Breakeven) Point = sales / break-even point
This ratio reflects the extent to which profits are not vulnerable to a
decline in sales.
A sales to breakeven point ratio near 1:0 (100%) means that the
company is quite vulnerable to economic declines.
A ratio below 1:1 (100%) indicates that the company's sales are
inadequate to cover fixed costs.
3. Sales to Cash Ratio
Sales to Cash = sales / cash
This is sometimes referred to as a cash turnover ratio.
High sales to cash ratio may indicate a cash shortage.
A low ratio many reflect the holding of idle and unnecessary cash
balances.
4. Sales to Current Assets Ratio
Sales to Current Assets = sales / current assets
A high sale to current assets ratio indicates deficient working capital.
5. Sales to Fixed Assets Ratio
Sales to Fixed Assets = sales / fixed assets.
The sales to fixed assets ratio is often called the asset turnover ratio.
A low sale to fixed assets ratio means inefficient utilization or
obsolescence of fixed assets, which may be caused by excess capacity
or interruptions in the supply of raw materials.
6. Ratio of Sales to Net Income
Sales to Net Income = sales / net income
A declining ratio is a cause for concern.
7. Sales to Total Assets Ratio
Sales to Total Assets = sales / total assets
A low ratio indicates that the total assets of the business are not
providing adequate revenue.
8. Sales to Working Capital Ratio
Sales to Working Capital = sales / working capital
A high ratio may indicate inadequate working capital, which reflects
negatively on liquidity.
9. Trend in Sales
Trend in Sales is the rate at which sales are increasing or decreasing
The trend in sales is also referred to as the sales trend.
Net Income Ratios
1. Ratio of Net Income Increases to Pay Increases
Net Income Increases to Pay Increases = change in net income /
change in salaries, wages and benefits
This ratio shows whether net income is increasing faster than wages
(in dollar terms).
A ratio of less than 1:1 (100%) indicates that profitability increases are
less than the increases in wages.
A recurring ratio of less than 1:1 (100%) indicates eroding profits and
is a cause for concern.
This ratio calculates the effect in dollar terms. The analyst should also
calculate percent increase in net income to percent increase in
salaries, wages and benefits.
2. Profits per Employee / Net Income per Employee
Profits per Employee (Net Income per Employee) = net income /
number of employees
This ratio indicates the average profit generated per person employed.
3. Net Income to Assets Ratio
Net Income to Assets = net profit before taxes / total assets.
The net income to assets ratio is also referred to as the return on
assets ratio.
The net income to assets ratio provides a standard for evaluating how
efficiently financial management employs the average dollar invested
in the firm's assets, whether the dollar came from investors or
creditors.
A low net income to assets ratio indicates that the earnings are low for
the amount of assets.
The net income to assets ratio measures how efficiently profits are
being generated from the assets employed.
A low net income to assets ratio compared to industry averages
indicates inefficient use of business assets.
4. Ratio of Net Income to Fixed Charges
Net Income to Fixed Charges = net income / fixed charges
5. Net One Time Gains to Net Income Ratio
Net One Time Gains to Net Income = extraordinary profit or loss / net
income
A rising percent in extraordinary profit / loss or prior period
adjustments indicates deterioration in earnings quality, which will be
reflected in a lower multiplier when determining the value of the
shares.
6. Ratio of Non-Operating Income to Net Income
Non-operating Income to Net Income = non-operating income / net
income
Increasing ratios may indicate changes in accounting made to boost
profits.
Increasing ratios may mean that the business is moving away from its
core business.
7. Ratio of Operating Income to Wages and Salaries
Operating Income to Wages and Salaries = operating income / (salaries
+ wages + benefits)
This ratio shows the relationship between operating income and
amount of wages and salaries paid.
A declining trend indicates a narrowing of margins and is a cause for
concern.
8. Percent Change in Operating Income versus Sales Volume
Ratio
Percent change in operating income vs. sales volume = % change in
operating income / % change in sales volume
An increase may indicate higher fixed charges.
Labor Ratios
1. Change in Employment Ratio
Change in Employment = increase/(decrease) in the number of
employees
This ratio shows how many more (fewer) employees the company has
than the previous year.
2. Fixed Labor to Total Labor Costs Ratio
Fixed Labor to Total Labor = fixed Labor costs (including benefits) /
total Labor costs (including benefits)
Shows the extent to which Labor costs are fixed.
A low percent is preferred, especially in industries with volatile
demands or seasonality.
3. Ratio of Labor Costs to Net Income
Labor Cost to Net Income = (salaries, wages and benefits) / net income
This ratio measures the extent to which Labor costs number of
employees x average wage and benefit per employee) affect net
income.
This ratio indicates the extent to which a reduction in unproductive
Labor (as a percent of total Labor costs) may increase net income.
4. Ratio of Labor Costs to Sales
Labor Cost to Sales = (salaries, wages and benefits) / sales
This ratio indicates the extent to which Labor costs must be absorbed
into sales prices.
5. Ratio of Labor Costs to Total Costs
Labor Cost to Total Costs = (salaries, wages and benefits) / total costs
This ratio measures the extent to which Labor is a cost factor
6. Percent Change in People Employed Ratio
Percent Change in People Employed = (the change in the number of
employees) / number of employees in previous year) x 100%
This ratio shows the percent growth in number of employees.
7. Percent Increase in Wages or Salaries per Employee
Percent Increase in Wages or Salaries per Employee = ((current year
average wage and benefit per employee - previous year average wage
and benefit per employee)/ previous year average wage and benefit
per employee) x 100%
Discretionary Cost Ratios
1. Ratio of Discretionary Costs as a Percent of Sales
Discretionary costs = advertising + research and development +
training + repairs and maintenance costs
Discretionary costs as a percent of sales = (discretionary costs / sales)
x 100%
A decreasing trend indicates profit may have come from reductions in
discretionary costs which may negatively affect future profits.
2. Equipment Replacement Ratio
Equipment Replacement Ratio = change in undercoated assets /
depreciation.
The equipment replacement ratio indicates whether the company is
spending sufficient funds on replacing assets.
3. Equipment Upkeep Ratio
Equipment Upkeep Ratio = equipment repairs and replacement costs /
total revenues.
A decline in the equipment upkeep ratio indicates eroding revenues.
4. Fixed Charge Coverage Ratio
Fixed Charge Coverage Ratio = (Net Income Before Interest and Taxes
+ interest + fixed costs) / fixed costs.
The fixed charge coverage ratio indicates the risk involved in ability to
pay fixed costs when business activity falls.
5. Fixed Costs (Excluding Labor) per Employee
Fixed costs (excluding Labor) per employee = fixed costs - fixed Labor
costs / number of employees
The fixed costs (excluding Labor) per employee ratio shows the
overhead factor (excluding Labor) that each employee carries
6. Fixed Costs to Total Assets Ratio
Fixed costs to total assets = fixed costs / total assets
An increase in the fixed costs to total assets ratio may indicate higher
fixed charges, possibly resulting in greater instability in operations and
earnings.
7. Long Term Return on Training and Development
Long Term Return on Training and Development = increase in
productivity and knowledge assets / training costs
This ratio is a general indicator of the long term return on training and
development.
An average of several years' ratios should be used to compensate for
training and development cost fluctuations.
8. Office Repairs and Supplies Costs per Employee
Office repairs and supplies per employee = office repairs and
supplies / number of employees
This ratio shows the cost of office repairs and supplies per employee.
This is one factor that may be taken into consideration when planning
staff reductions, or budget planning.
9. Percent Growth in Productivity and Knowledge Assets
Percent Growth in Productivity and Knowledge Assets = growth in
productivity and knowledge assets / previous year productivity and
knowledge assets
This ratio indicates the rate of growth or decline in the quality of
employees.
10. Phone Costs per Employee
Phone costs per employee = phone costs / number of employees
This ratio shows the cost of telephone charges per employee.
This is one factor that may be taken into consideration when planning
staff reductions, or budget planning.
11. Productivity and Knowledge Assets
Productivity and Knowledge Assets = productivity and knowledge
contribution x 6
This ratio indicates the amount of assets residing in the knowledge and
skills of employees.
12. Productivity and Knowledge Contributed per Employee
Productivity and Knowledge Contributed per Employee = productivity
and knowledge contribution / number of employees
This ratio indicates the average amount of excess net income that
each employee adds through experience, training, productivity and
creativity.
13. Productivity and Knowledge Contribution
Productivity and Knowledge Contribution = net income - normal return
on investment
This ratio shows the amount of net income that comes from employees
(versus capital).
In a competitive environment, margins and profits will be forced to
yield normal returns for shareholders. This ratio indicates the
contribution of the company being run better or smarter than normal
14. Repairs and Maintenance Costs to Associated Assets
Repairs and Maintenance to Associated Assets = repairs and
maintenance / fixed assets
A decreasing trend may indicate a company's failure to maintain
capital facilities.
15. Training Costs per Employee
Training Costs per Employee = training costs / number of employees
This ratio shows the average amount spent on training each employee
in the period.
A decline may indicate future declines in productivity.
An increase may indicate and increase in employee turnover.
Foreign Risk Ratios
1. Percent Export Earnings Ratio
Percent Export Earnings = (export earnings x 100%) / total earnings
The percent export earnings indicate the earnings risk associated with
currency risks.
2. Percent Export Revenues Ratio
Percent Export Revenues = (export revenue x 100%) / total revenue
The percent export revenue indicates the sales volume risk associated
with currency risks.
3. Percent Unstable Foreign Earnings Ratio
Percent Unstable Foreign Earnings = (earnings from politically unstable
countries x 100%) / net earnings
The percent unstable foreign earnings indicate the amount of earnings
at risk because of political instability of the country (ies) of origin.
4. Percent Unstable Foreign Revenue Ratio
Percent Unstable Foreign Revenues = (revenues from politically
unstable countries x 100%) / total revenues
The percent unstable foreign revenues indicate the amount of revenue
at risk because of political instability of the country (ies) of origin.
Costs Per Employee
1. Fixed Costs per Employee
Fixed Costs per Employee = fixed costs / number of employees
This ratio shows the average amount spent on overhead for each
employee in the period.
This shows the overhead factor that each employee must carry
Investment Ratios
1. Dividend Payout Ratio
Dividend Payout Ratio = annual dividends per share / net income.
The dividend payout ratio shows the portion of earnings that are paid
out in dividends.
A low dividend payout ratio indicates that a large portion of the profits
are retained and likely invested for growth.
2. Dividend Yield
Dividend Yield = annual dividends per share / price per share.
The dividend yield is the yield a company pays out to its shareholders
in terms of dividends.
3. Growth Rate in Earnings per Share (EPS) Ratio
Earnings per Share (EPS) Growth Rate = (EPS at end of period - EPS at
beginning of period) / EPS at beginning of period
The earnings per share growth rate indicate the amount of growth for
investors.
This ratio helps determine the multiplier used in calculating the
company's market value. A higher ratio yields a higher multiplier.
The trend in this ratio indicates whether growth is steady , sporadic,
accelerating or declining.
4. Price Earning Ratio - P/E Ratio
Price Earnings (P/E) Ratio = market price per share /
Earnings per share.
A decrease in the price earnings ratio (P/E ratio) may indicate a lack of
confidence in the company's ability to maintain earnings growth.
Dividend Ratios
1. Cash Dividend Coverage Ratio
Cash Dividend Coverage = (cash flow from operations) / dividends.
The cash dividend coverage ratio reflects the company's ability to
meet dividends from operating cash flow.
A cash dividend coverage ratio of less than 1:1 (100 %) indicates that
dividends are draining more cash from the business than it is
generating.
2. Dividend Payout Ratio
Dividend Payout Ratio = annual dividends per share / net income.
The dividend payout ratio shows the portion of earnings that are paid
out in dividends.
A low dividend payout ratio indicates that a large portion of the profits
are retained and likely invested for growth.
3. Dividend Yield
Dividend Yield = annual dividends per share / price per share.
The dividend yield is the yield a company pays out to its shareholders
in terms of dividends.
Other Accounting Ratios
1. Advertising to Sales Ratio
Advertising to Sales Ratio = advertising costs / sales
Advertising to Sales Ratio = 1/ sales to advertising ratio
The advertising to sales ratio calculates the extent to which advertising
is a cost of sales.
It is the inverse of the sales to advertising ratio of return on
advertising.
A ratio above 0.1:1 (10%) is of concern because it indicates that
advertising is not generating over 10 times its cost in sales
2. Altman z-score
Z-score = 1.2 a + 1.4 b + 3.3 c + d+.6 f
E g
Where:
a = working capital,
b = retained earnings,
c = operating income,
d = sales,
e = total assets,
f = net worth and
g = total debt
The Altman z-score is a bankruptcy prediction calculation.
The z-score measures the probability of insolvency (inability to pay
debts as they become due).
1.8 Or less indicates a very high probability of insolvency.
1.8 to 2.7 indicates a high probability of insolvency.
2.7 to 3.0 indicate possible insolvency.
3.0 Or higher indicates that insolvency is not likely.
3. Audit Ratio
Audit Ratio = audit costs / sales
A high audit ratio indicates that more audit time was required because
of problems with the company's accounting records or control
procedures.
4. Growth Rate in Retained Earnings Ratio
Retained Earnings Growth Rate = (net income - dividends) / common
shareholders' equity
A lower retained earnings growth ratio reflects the company's inability
to generate internal funds.
5. Interest Cost of Inventory
Interest Cost of Inventory = inventory x interest rate
The interest cost of inventory reflects the interest associated with
holding inventory.
Insurance, storage, theft and obsolescence costs must be added to the
interest cost of inventory when determining the total inventory holding
costs.
6. Ratio of Overhead to Direct Labor Costs
Overhead to Total Labor = fixed costs/ variable (direct) Labor) costs
The overhead to direct Labor ratio shows the overhead factor per
direct Labor dollar.
7. Ratio of Overhead to Variable Costs
Overhead to Variable Costs = fixed costs / variable costs
This ratio shows the overhead factor per variable dollar cost.
8. Quality Ratio / Product Quality Ratio
Quality Ratio = 1 - (sales returns and allowances / sales).
The quality ratio, or product quality ratio, indicates the extent of
acceptance (in dollar terms) of the product or services sold.
The analyst should look to see whether the quality is increasing or
decreasing.
A decrease in the quality ratio indicates declining product quality,
which may lead to decreasing sales or profit margins
THE END
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