A Summary of Key Financial Ratios

Which
Ratios Financial How To Calculated Meaning +Ve -Ve Comments
Statement
Liquidity Ratios
Is a measure of its (high/low) ability to meet short-term obligations? An asset is deemed liquid if it can be readily
converted into cash
>1 to 2 ≤ 1 Or >2

if the result is greater than if the result is less than

industry average/ greater than industry average/ less than
previous year then: previous year, this means
- from creditor standpoint, that the firm has a great
Company ability to pay risk concerning it's
its short term liability they like to see a high current
ratio because if the firm getting capabilities to satisfy its
from short term assets Problem Reflected
Current into financial difficulty its obligations
Balance Sheet ( how much of current critical cash
Ratio liquidity position will be >2
assets are available to Position
relatively weak so, this ratio
cover each dollar of
provides the best single indicator from shareholder
Current assets current liabilities)
of the extent to which the claims standpoint,
Current liabilities of short-term creditors are a high current ratio could
covered by assets that are mean that the firm has a
In Decimal (times) expected to be converted to cash lot of money tied up in
fairly quickly. non-productive assets, (to
be better invested)
It should be < 1 to be a
It should be > 1 to be a good bad sign
Company ability to pay sign Result is < industry Problem Reflected
Current Assets-Inventory its short term liability Moderate average/ less than year need to sell
Quick Ratio Current Liabilities from current assets
Balance Sheet Result is > industry average the before this means that the inventory
(acid test) excluding inventory firm has a great risk
company can pay off its current to meet its short
(without relying on the concerning it's
liabilities without having to term obligation
In Decimal (times) sale of inventories )
liquidate its inventory. capabilities to satisfy its
obligations
 Leverage Ratios ( Debt Ratios )
Indicated that the company depends (more/ less) on debt. This make it (more/ less) risky than itself in previous years. A
company is said to be highly leveraged if it uses more debt than equity, including stock and retained earnings. The balance
between debt and equity is called the capital structure. The optimal capital structure is determined by the individual
company. Debt has a lower cost because creditors take less risk; they know they will get their interest and principal.
However, debt can be risky to the firm because if enough profit is not made to cover the interest and principal payments,
bankruptcy can occur.
 Measure the extent
To know if I can
to which borrowed get a loan/finance
funds have been Low or decrease
High or increase or not,
used to finance
It is preferable to
company assets. Creditors prefer low debt ratios
Total Debt- Stockholders, on the other be low.
 it describes how the because the lower the ratio, the
to-Total- Balance Sheet Total Liabilities (Debt) hand, may want more Problem Reflected
Assets Ratio firm is financed, Greater the Cautious against
Total Assets leverage because it The company will
 It measures the creditors' losses in the event of
magnifies expected increase its
percentage of funds liquidation.
Earnings. expenses
provided by sources
other than equity. Regarding to
(In %) interest rate

Measure The funds

Problem Reflected
Debt-to- Total Liabilities(Debt) provided by creditors
Balance Sheet not suitable
Equity Ratio Total stockholders’ equity versus The funds
Investment
(In %) provided by owners
The balance between
Long term Long term Liabilities(Debt)
debt and equity in a
Debt-to- Balance Sheet Total stockholders’ equity
firm’s long-term capital
Equity Ratio (In %)
structure
Times Income It measures the ability High or increase Low or decrease Related Ratios
Interest statement of the firm to pay If the result is relatively high, Failure to meet obligations Profit Margin
Earned Ratio Earnings Before Interest &
interest costs this means that the firm can thus, can bring legal action Ratio if the result
Taxes (EBIT)
If it is not mentioned then (The extent to which depend on more debt on by the creditors, possibly is low this might
Revenues- Expenses= EBIT earnings can decline financing its operations. resulting in bankruptcy means that the
 If the result is moderate, this
without the firm means that the firm would face
Interest Charges (Expenses) becoming unable to difficulties if it attempted to interest cost is
meet its annual interest borrow additional funds. high
Decimal(times) costs) Creditors prefer high TIE
ratios .because if it low >>>>>>
if the result is low this  if the result is
might means that the moderate, this
interest cost is high, while means that the
if the result is relatively high,
Net Income after deducting the the net income is firm would
interest expenses this means that the firm can
Profit calculated after deducting face
‫ــــــــــــــــــــــــــــــــــــــــــــــــــــــــــــ‬ depend on more debt on
Margin Ratio the interest expenses from difficulties .
Total Sales financing its operations.
gross income; this means  if it attempted
% that the profit margin goes to borrow
lower. additional
funs

Activity Ratios ( assets ratios )

indicate how (effectively/ineffectively ) a company is managing its assets
Inventory Measures how > 1 - High or increase < 1 - Low or decrease Related Ratios
Turnover effectively the firm is sales is more than inventory then Current ratio
managing its we can recommend to increase Result is < industry Problem Reflected
Income Sales inventories production average this means that the problem in
statement (Measures the number firm is holding too much sales or
Inventory of finished goods
Balance Sheet of times that average inventory. Excess Marketing.
In Decimal (times) inventory of finished inventory is unproductive
goods were turned over and it represents an
or sold during a period investment with a low or
of time usually a year.) zero rate of return.
This means then we need
to do marketing plan &
sales.
a low turnover, we must
wonder whether the firm is
actually holding obsolete
 goods not worth their
stated value.

Inventory Measures the number of

Days of
Cost of goods sold/365 one day's worth of
inventory
(In Days) inventory
Total Sales =
Measures how Sales
High or increase If there is no
effectively the company Low or decrease
uses its plant and sales then we
equipment (utilization If the result fair compared with take revenue
If the result is < the
Fixed Assets of fixed assets ) the industry average/ the last (Income
Turnover Sales industry average this
years,, indicating that the firm is
Income Measures how many means that the firm doesn't statement).
statement using its fixed assets as
Fixed Assets sales are generated by utilize its assets on a Total Assets
Balance Sheet intensively as other firm in the
each dollar of fixed proper manner. from Balance
industry
In Decimal (times) assets sheet

 Measures the Low or decrease

turnover of all the If the ratio is somewhat
firm's assets. below the industry
 Whether a firm is average/ last years,
generating a indicating that the firm is
Sales sufficient volume of not generating a sufficient Problem Reflected
Total Assets volume of business given Problem in
business for the size High or increase
Turnover its total asset investment.
Income Total Assets of its asset investment Assets operation
statement (utilization of all Recommendations:
Balance Sheet company assets ) Sales should be increased
 Measures how many Some assets should be
In Decimal (times) sales are generated by sold
each dollar of assets Apply both solutions
 Measure the efficiency
Average of the collection policy.
Collection Accounts Receivable Low or decrease
Balance Sheet The average length of
Period (day High or increase
sales Income Annual Sales/365 time in days it takes a
outstanding) statement (In Days) firm to collect on credit
sales

Indicates the number of

Annual credit sales
Accounts times that account
Accounts Receivable
Receivable Balance Sheet receivable are cycling
Turnover Income during the period
In Decimal (times)
statement (usually a year)

Sales Measure how

Net working effectively Net working
Capital
Turnover Net Working Capital Capital is used to
In Decimal (times) generate sales

Profitability Ratios
Indicates that the company utilize it (assets/or finance) (more/ less) efficient than itself in previous years and generate
(high /low) net profit on each 1$ worth of sales than itself in previous years.
Measure the efficiency with which the company uses its resources. The more efficient the company, the greater is its
profitability. It is useful to compare a company's profitability against that of its major competitors in its industry. In
addition, the change in a company's profit ratios over time tells whether its performance is improving or declining.

Low or decrease
Indicates The total sales High or increase
available to cover other
expenses beyond cost of It should change its
Gross Profit Income if the result is relatively high
Margin statement goods (operating marketing strategy to
Sales - Cost of goods sold above 10%, good logistics and
expenses) and yield a increase its sales in less
Sales supply chain management
profit operations cost to increase
its net income.
(%)
 Recommended
strategy
retrenchment &
cost leadership as
Earnings Before Interest & Low or decrease we have big part
Taxes (EBIT) It should change its wasted in
Operation If it is not mentioned then Indicates Profitability administrative
Income marketing strategy to
Profit
Revenues- Expenses= EBIT High or increase expenses like
Margin
statement without concern for increase its sales in less
Sales taxes and interest operations cost to increase salary –
its net income. departments as
(%) HR
Revisit company
structure

Net Profit Income Indicates how much High or increase Low or decrease Problem Reflected
Margin statement After-tax profits are This means that the firm is -Costs are too
generated by each dollar using more debt to finance high
of sales. its operations. This means -Inefficient
It measures the that paying more interest operations
effectiveness of a firm's expenses which decrease -Heavy use of
operations, and goes on the net income debt
to show the combined this means that the firm
effects of liquidity, would face difficulties
Net Income (Net Profit after tax)
assets management, and if it attempted to borrow
debt on operating additional funs
Sales
results. Recommendations
(%)
If the result is relatively
low, the firm should
change its financial
strategy to be more
dependent on equity rather
than debt.
Also it should change its
marketing strategy to
 increase its sales in less
operations cost to increase
its net income.
Related Ratios
inventory
turnover ratios
if the result is
relatively low, we
recommend that
Measures the rate of the firm should
return on the total Low or decrease change its
Return on assets. A measure of this means that the firm is financial strategy
Total Assets
High or increase
management efficiency. not utilizing its assets in a to be more
(ROA)= this means that the firm is
How much company proper way .means that the dependent on
Return on utilizing its assets in a proper
Investment generates in dollar firm is paying more equity rather than
way debt.
(ROI) return for each one Interest expenses which
Net Income(Net Profit after tax) dollar invested in its also it should
Income decrease the net income.
Total Assets assets. change its
statement
Balance Sheet marketing strategy
to increase its
(%) sales in less
Operations cost to
increase its net
income.
Return on Measures the rate of High or increase Low or decrease if the result is
Stockholder return on each dollar of This means that the firm is relatively low, we
s’ Equity recommend that
(ROE) stockholders’ using more debt to finance
the firm should
investment in the firm. its operations. This means
change its
How much company that paying more interest financial strategy
generates in dollar expenses which decrease to be more
Income
statement return for each one the net income dependent on
Net Income(Net Profit after tax)
dollar invested by equity rather than
Balance Sheet Shareholder's Equity debt.
stockholders’.
also it should
(%) a company attempting change its
 marketing strategy
to maximize the wealth to increase its
of its stockholders sales in less
should be trying to Operations cost to
maximize this ratio increase its net
income
Net Income(Net Profit after tax)
Earnings Indicates Earnings
Number of common shares of
Per Share generated for each share High or increase Low or decrease
(EPS)
stock
of common stock
(Dollar / share)
Related Ratios
Inventory
Turnover Ratio
Fixed Assets
Turnover Ratio
Recommendation
It shows the raw while the result
Basic Low
earning Earnings before interest & tax earning power of the goes lower, the
This consider as a result of firm should take
Power (BEP) (EBIT) firm's assets, before High
Ratio low turnover ratios and necessary actions
influence of taxes and
(VIP Ratio) low profit margin on sales. to improve the
Total Assets interest
(%) turn over ratios
which its results
will be reflected
on profit margin
and on basic
earning power
ratio as well.

Growth Ratios ( market Value Ratios )( Shareholder-Return Ratios)

Measure the return earned by shareholders from holding stock in the company. Given the goal of maximizing stockholders'
wealth, providing shareholders with an adequate rate of return is a primary objective of most companies
 Shows the current
market's evaluation of
stock, based on earning.
Low
Shows how much the High
Price to The lower the better for a new
Market Price per Share investor willing to pay If the market price per
Earnings investor.
Earnings per Share (EPS) for each dollar of share is > 12-15 time EPS,
Ratio(P/E) If it’s < 12-15 time EPS, this is
earning. this is overvalued stock
undervalued stock.
In Decimal (times) Attractiveness of
company on equity
markets
Market Price per Share
Price to Cash
Cash Flow per Share
Flow Ratio
In Decimal (times)

Annual Dividends Per Share Indicates the percentage

Dividend
Annual Earnings Per Share of profit that is paid out
Payout Ratio
(%) as dividends

Annual percentage growth in Firm’s growth rate in

Sales
total sales sales

Annual percentage growth in Firm’s growth rate in

Net Income
profits profits

Earnings Annual percentage growth in Firm’s growth rate in

Per Share EPS EPS

Dividends Annual percentage growth in Firm’s growth rate in

Per Share dividends per share dividends per share
Cash Flow

Cash flow position is simply cash received minus cash distributed.

The net cash flow can be taken from a company's statement of cash flows.
Cash flow is important for what it tells us about a company's financing needs.
A strong positive cash flow enables a company to fund future investments without having to borrow money from bankers or investors.
This is desirable because the company avoids the need to pay out interest or dividends.
A weak or negative cash flow means that a company has to turn to external sources to fund future investments.
Generally, companies in strong-growth industries often find themselves in a poor cash flow position (because their investment needs are substantial), whereas
successful companies based in mature industries generally find themselves in a strong cash flow position.

A company's internally generated cash flow is calculated by adding back its depreciation provision to profits after interest, taxes, and dividend payments.
If this figure is insufficient to cover proposed new-investment expenditures, the company has little choice but to borrow funds to make up the shortfall or to
curtail investments.
If this figure exceeds proposed new investments, the company can use the excess to build up its liquidity (that is, through investments in financial assets) or to
repay existing loans ahead of schedule.

Cash Flow/Share (CFPS) = Net Income + Depreciation + Amortization

Common shares outstanding

Cash Ratio = Cash & Cash Equivalent / Current Liabilities
Working Capital = Current Assets – Current Liabilities
イ EBT =Earnings after tax / 1-tax rate
ロ EBIT = EBT + Interest

2. Key financial ratios for measuring organizational performance:

a. return on investment
b. return on equity
c. profit margin
d. market share
e. debt to equity
f. earnings per share
g. sales growth
h. asset growth