Financial Ratios Tutorial

Being able to calculate various financial ratios can allow you to do numerous things, including analyzing your business and the success of it, understanding the success of a potential investment in the stock market or simply giving you a guideline and prediction for how successful the company may be in the future. Financial ratios measure different aspects of a financial portfolio.

Instructions

Liquidity Ratios

1. Take the current assets of a company and divide them by the current liabilities. This will give you the current ratio, which tests a company's liquidity and ability to pay off their short-term liabilities.

2. Calculate the quick ratio by taking the cash and equivalents, adding short-term investments and adding accounts receivable. Divide that total by current liabilities. The quick ratio is a more conservative figure than the current ratio, since it does not include inventory or other assets listed on the balance sheet.

3. Add cash, cash equivalents and invested funds. Divide that total by current liabilities to determine the cash ratio. This number is also an indication of how liquid a company is, but is the most conservative of the liquidity ratios.

Profitability and Debt Ratios

1. Calculate the gross profit margin by dividing the gross profit by net sales. Dividing the operating profit by net sales will determine the operating profit margin. The pretax profit divided by the net sales will find the pretax profit margin. Net income divided by net sales will result in the net profit margin. Each of these ratios makes up the profit margin analysis, which can help determine a company's profitability.

2. Divide the net income by the average total assets to find the return on assets. This number indicates the profitability of a company based on the assets in the company's possession. The higher the number, the more profitable the company is.

3. Divide total liabilities by total assets to find the debt-to-assets ratio. This percentage will give an indication on how much debt the company is in. The very basic ratio means that the lower the number, the less debt a company has; the higher the number, the more liabilities a company has, which may lead to future financial problems.

4. Find the cash-flow-to-debt ratio by dividing the operating cash flow by the total debt of a company. This number is an indication of how well a company will be able to cover their debt over the next few years based on how much money they make on a regular basis. The higher the ratio, the better able a company will be to cover their debt.

References

• Meetup: Financial Ratios Tutorial
• Net MBA: Financial Ratios