Financial Ratios

What are Financial Ratios?

Financial Ratios are key indicators of the financial performance of the company and are usually derived from its three statements including income statement, balance sheet, and cash flows. These financial ratios help in analyzing the company’s profitability, liquidity, assumed risks as well as financial stability.

List of Top 28 Financial Ratios with Formulas & Types

Below are the types and list of financial ratios with Formulas

Liquidity Financial Ratios Formulas

• #1 – Current ratio
• #2 – Quick ratio
• #3 – Absolute liquidity ratio
• #4 – Cash ratio

Turnover Financial Ratios Formulas

• #5 – Inventory Turnover Ratio
• #6 – Receivables Turnover Ratio
• #7 – Capital Turnover Ratio
• #8 – Asset Turnover Ratio
• #9 – Net Working Capital Ratio
• #10 – Cash Conversion Cycle

Operating Profitability Financial Ratio Formulas

• #11 – Earnings Margin
• #12 – Return on Investment
• #13 – Return on Equity
• #14 – Earnings Per Share

Business Risk Ratios Formulas

• #15 – Operating Leverage
• #16 – Financial leverage
• #17 – Total Leverage

Financial Risk Ratios Formulas

• #18 – Debt-Equity Ratio
• #19 – Interest Coverage Ratio
• #20 – Debt Service Coverage Ratio

Stability Ratios

• #21 – Fixed Asset Ratio
• #22 – Current Asset to Fixed Asset
• #23 – Proprietary Ratio

Coverage Financial Ratios Formulas

• #24 – Fixed Interest Cover
• #25 – Fixed Dividend Cover

Control Ratios

• #26 – Capacity Ratio
• #27 – Activity Ratio
• #28 – Efficiency Ratio

Liquidity Financial Ratio Analysis

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The first type of financial ratio analysis is the Liquidy Ratio. Liquidity ratio aim is to determine the ability of a business to meet its financial obligations during short-term and to maintain its short-term debt paying ability. Liquidity ratio can be calculated by multiple ways they are as follows:-

#1 – Current Ratio

Current ratio referred as a working capital ratio or banker’s ratio. Current ratio expresses the relationship of a current asset to current liabilities.

A company’s current ratio can be compared with past current ratio, this will help to determine if the current ratio is high or low at this period in time.

The ratio of 1 is considered to be ideal that is current assets are twice of a current liability then no issue will be in repaying liability and if the ratio is less than 2 repayment of liability will be difficult and work effects.

#2 – Acid Test Ratio/ Quick Ratio

The current ratio is generally used to evaluate an enterprise’s overall short-term solvency or liquidity position but many times it is desirable to know the more immediate position or instant debt paying ability of a firm than that indicated by the current ratio for this acid test financial ratio is used. It is relating the most liquid assets to current liabilities.

The quick ratio can be written as:-

Or

#3 – Absolute Liquidity Ratio

Absolute Liquidity helps to calculate actual liquidity and for that inventory and receivables are excluded from current assets. For a better view of liquidity, some assets are excluded that may not represent current cash flow. Ideally, the ratio should be 1:2.

#4 – Cash Ratio

Cash ratio is useful for a company who is undergoing is financial trouble.

If the ratio is high then it reflects underutilization of resources and if the ratio is low then it can lead to a problem in repayment of bills.

Turnover Financial Ratio Analysis

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The second type of financial ratio analysis is the Turnover Ratio. Turnover ratio is also known as activity ratio. This type of ratio indicates the efficiency with which an enterprise’s resources are utilized. For each asset type financial ratio can be calculated separately.

Following are financial ratios commonly calculated:-

#5 – Inventory Turnover Ratio

This financial ratio measures the relative size of inventory and influences the amount of cash available to pay liabilities.

#6 – Debtors or Receivable Turnover Ratio

The receivable turnover ratio shows how many times the receivable was turned into cash during the period.

#7 – Capital Turnover Ratio

The capital turnover ratio measures the effectiveness with which firm uses its financial resources.

#8 – Asset Turnover Ratio

This financial ratio reveals the number of times the net tangible assets are turned over during a year. Higher the ratio better it is.

#9 – Net Working Capital Turnover Ratio

This financial ratio indicates whether or not working capital has been effectively utilized in making sales. Net Working capital signifies the excess of current assets over current liabilities.

#10 – Cash Conversion Cycle

Cash conversion cycle is the total time taken by the firm to convert its cash outflows into cash inflows (returns).

Operating Profitability Financial Ratio Analysis

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The third type of financial ratio analysis is the Operating Profitability Ratio. Profitability ratio helps to measure the profitability of a company through this efficiency of business activity. Following are the important profitability ratios:-

#11 – Earning Margin

It is the ratio of net income to turnover express in percentage. It refers to the final net profit used.

#12 – Return on Capital Employed or Return On the Investment

This financial ratio measures profitability in relation to the total capital employed in a business enterprise.

#13 – Return On Equity

Return on equity is derived by taking net income and dividing it by shareholder’s equity, it provides a return which management is realizing from the shareholder’s equity.

#14 – Earnings Per Share

EPS is derived by dividing the profit of the company by the total number of shares outstanding. It means profit or net earnings.

The investor uses all above ratio before investing and make maximum profit and analyze risk. Through ratio, it is easy for him to compare and predict the future growth of a company. It also simplifies financial statement.

Business Risk Ratios

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The fourth type of financial ratio analysis is the Business Risk Ratios. Here we measure how sensitive is the company’s earnings with respect to its fixed costs as well as the assumed debt on the balance sheet.

#15 – Operating Leverage

Operating leverage is the percentage change in operating profit relative to sales and it measures how sensitive the operating income is to the change in revenues. Greater use of fixed costs, greater the impact of a change in sales on the operating income of a company.

#16 – Financial Leverage

 

#17 – Total Leverage

Total leverage is the percentage change in Net profit relative to its Sales. Total leverage measures how sensitive the Net Income is to the change in Sales.

Financial Risk Ratio Analysis

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The fifth type of financial ratio analysis is the Financial Risk Ratio. Here we measure how leveraged is the company and how it is placed with respect to its debt repayment capacity.

#18 – Debt Equity Ratio

It helps to measures extent of equity to repay debt. It is used for long-term calculation.

#19 – Interest Coverage Ratio Analysis

This financial ratio signifies the ability of the firm to pay interest on the assumed debt.

#20 – Debt Service Coverage Ratio (DSCR)

Debt Service Coverage Ratio tells us whether the Operating Income is sufficient to pay off all obligations that are related to debt in a year.

Operating Income is nothing but EBIT

Debt Service is Principal Payments + Interest Payments + Lease Payments

• A DSCR of less than 1.0 implies that the operating cash flows are not sufficient enough for Debt Servicing implying negative cash flows.

Stability Ratios

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The sixth type of financial ratio analysis is the Stability Ratio. Stability ratio is used with a vision of long-term. It uses to check whether the company is stable in the long run or not. This type of ratio analysis can be calculated by multiple ways they are as follows:-

#21 – Fixed Asset Ratio

This ratio is used to know whether the company is having sufficient fun or not to meet the long-term business requirement.

The ideal ratio is 0.67. If the ratio is less than 1 then it can be used to purchase fixed assets.

#22 – Ratio to Current Assets to Fixed Assets

If ratio increases, profit increase and reflect business is expanding whereas if ratio decreases means trading is loose.

#23 – Proprietary Ratio

The proprietary ratio is the ratio of shareholder fund upon total tangible assets it tells about the financial strength of a company. Ideally, the ratio should be 1:3.

Coverage Ratios

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The seventh type of financial ratio analysis is the coverage Ratio. This type of ratio analysis is used to calculate dividend which needs to be paid to investors or interest to be paid to the lender. Higher the cover the better it is. It can be calculated by below ways:-

#24 – Fixed Interest Cover

It is used to measure business profitability and its ability to repay the loan.

#25 – Fixed Dividend Cover

It helps to measure dividend need to pay to the investor.

Control Financial Ratio Analysis

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The eighth type of financial ratio analysis is the Control Ratio. Control ratio from the name itself it is clear that its use to control things by management. This type of ratio analysis helps management to check favorable or unfavorable performance.

#26 – Capacity Ratio

For this type of ratio analysis, the formula given below will be used for same.

#27 –  Activity Ratio

To calculate a measure of activity below formula is used.

#28 – Efficiency Ratio

To calculate productivity below formula is used.

If a percentage is 100 or more it is considered to be as favorable, if a percentage is less than 100% then it is unfavorable.

Recommended Articles

This has been a guide to Financial Ratio Analysis. Here we provide a comprehensive list of 28 financial ratios formulas, types, and its interpretation. You may learn more about ratio analysis from the following articles –

• Interpretation of Equity Ratio Calculation
• Average Inventory Formula
• Operating Expense Example
• Cost of Goods Sold Formula
• What are Changes in Net Working Capital?
• Cash Ratio Formula
• Calculate Operating Expense Ratio
• Calculate Equity Turnover
• Calculate Inventory Turnover Ratio Formula
• Limitations of Ratio Analysis