Financial Ratios

Financial Ratios - Financial Ratios Financial ratios are a...

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Financial Ratios Financial ratios are a valuable and easy way to interpret the numbers found in statements. It can help to answer critical questions such as whether the business is carrying excess debt or inventory, whether customers are paying according to terms, whether the operating expenses are too high and whether the company assets are being used properly to generate income. When computing financial relationships, a good indication of the company's financial strengths and weaknesses becomes clear. Examining these ratios over time provides some insight as to how effectively the business is being operated. Many industries compile average industry ratios each year. Average industry ratios offer the small business owner a means of comparing his or her company with others within the same industry. In this manner, they provide yet another measurement of an individual company's strengths or weaknesses. Robert Morris & Associates is a good source of comparative financial ratios. Following are the most critical ratios for most businesses, though there are others that may be computed. Note : There may be different ways to compute ratios. It is important to be consistent from year to year and use the same method when making comparisons. FisCAL calculates ratios the same way as Robert Morris Associates (RMA). 1. Liquidity Liquidity measures a company's capacity to pay its debts as they come due. There are two ratios for evaluating liquidity. Current Ratio : The current ratio gauges how capable a business is in paying current liabilities by using current assets only. Current ratio is also called the working capital ratio. A general rule of thumb for the current ratio is 2 to 1 (or 2:1 or 2/1). However, an industry average may be a better standard than this rule of thumb. The actual quality and management of assets must also be considered. The formula is: Total Current Assets _____________________ Total Current Liabilities Quick Ratio: Quick ratio focuses on immediate liquidity (i.e., cash, accounts receivable, etc.) but specifically ignores inventory. Also called the acid test ratio, it indicates the extent to which you could pay
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This note was uploaded on 01/18/2012 for the course MGT 4199 taught by Professor Staff during the Spring '08 term at Kennesaw.

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Financial Ratios - Financial Ratios Financial ratios are a...

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