The cash ratio is equal to cash and cash equivalent items divided by the

# The cash ratio is equal to cash and cash equivalent

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The cash ratio is equal to cash and cash equivalent items divided by the current liabilities. The cash ratio is the most conservative of the liquidity ratios because it only takes into account the most liquid form of a current asset—that is, cash and cash equivalents. The first ratio that is generated from the income statement is the gross profit margin , which is computed as the gross profit divided by sales and shows the percentage of profit remaining after the cost of a good has been paid (Gross profit / Sales). The second ratio generated is the operating profit margin , which is found by dividing the operating profit by sales and shows the percentage remaining after deducting the operating expenses (Operating profit / Sales).
The final ratio that is directly computed from the income statement is the net profit margin . This ratio is computed by dividing the earnings available for common shareholders by sales (Earnings available for common shareholders / Sales). This is of particular interest because it is effectively showing the bottom-line profitability of a firm. The other two most commonly referenced profitability ratios are the return on equity (ROE) and the return on asset (ROA). The ROE is found by dividing the earnings available for common stockholders by the common stock equity. This tells the analyst of the return on every \$1 of equity. For example, if the ROE is computed as 7.6%, this would mean that for every \$1 of equity, the firm was able to generate 7.6 cents, or 7.6%. The ROA ratio is found by dividing the earnings available for common stockholders by the total assets. This ratio tells the analyst of the return on every \$1 of assets. For example, if the ROA is 11.1%, this would mean that for every \$1 of equity, the firm was able to generate 11.1 cents, or 11.1%. This ratio is significant because it shows how efficiently a firm is using assets to generate sales.

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• Summer '13
• Liquidity, Financial Ratio, Generally Accepted Accounting Principles, analyst

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