Financial Ratios

What are Financial Ratios?

Financial ratios are the indicators of the financial performance of companies and there are different types of financial ratios which indicate the company’s results, its financial risks and its working efficiency like the liquidity ratio, asset turnover ratio, Operating profitability ratios, Business risk ratios, financial risk ratio, Stability ratios etc.

List of Top 28 Financial Ratios with Formulas & Types

Below are the types and list of financial ratios with Formulas

1. Current ratio
2. Quick ratio
3. Absolute liquidity ratio
4. Cash ratio
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
11. Earnings Margin
12. Return on Investment
13. Return on Equity
14. Earnings Per Share
15. Operating Leverage
16. Financial leverage
17. Total Leverage
18. Debt-Equity Ratio
19. Interest Coverage Ratio
20. Debt Service Coverage Ratio
21. Fixed Asset Ratio
22. Current Asset to Fixed Asset
23. Proprietary Ratio
24. Fixed Interest Cover
25. Fixed Dividend Cover
26. Capacity Ratio
27. Activity Ratio
28. Efficiency Ratio

Liquidity 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 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 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 the 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. The stability ratio is used with a vision of the 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 funds 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 the 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 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 the 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.

Financial Ratios Video

Recommended Articles

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

• Working Capital Turnover Ratio Formula
• Cash Ratio Formula
• Calculate Operating Expense Ratio
• Limitations of Ratio Analysis