FINC 341 Chapter 4

Current Ratio Formula

CA/CL

What does Current Ratio tell us?

indicator of the company’s ability to pay off its current liabilities by using current assets

Generally, we want the Current Ratio to be

higher

Quick/Acid Test Ratio Formula

CA - Inventory / CL

Quick/Acid Test Ratio Meaning

tells us whether or not there are enough VERY CURRENT/QUICK assets to cover current liabilities because inventory is the slowest asset to turn into cash

We usally want Quick/Acid Test Ratio to be

higher

Inventory Ratio

COGS / Inventory

Inventory Ratio Meaning

how quickly your inventory is being sold

We want the inventory ratio to be

higher

Days sales outstanding/average collection period

Receivable/average sales per day

Days sales outstanding/average collection period meaning

measures th elength of time ti takes for a customer to pay a company after sales are made

We want the Days sales outstanding/average collection period to be

lower

Fixed Asset Turnover Formula

sales/ net fixed assets

Fixed Asset Turnover meaning

how many dollars in sales are generated for every dollar in fixed assets

We want the Fixed Asset Turnover to be

higher

Total Asset Turnover Formula

Sales/Total Assets

Total Asset Turnover meaning

how productive total assets were at generating sales

we want Total Asset Turnover to be

higher

Total Debt to Total Capital ratio formula

total debt/total capital OR total debt/total debt + equity

we want Total Debt to Total Capital ratio to be

balanced

Debt to Equity Ratio Formula

total liabilities/equity

Debt to Equity Ratio meaning

measures how much debt a company has in comparison to its equity

Times Interest earned formula

EBIT/interest Charged

Times Interest earned meaning

Measures the company’s ability to pay interest. Many long term creditors are focused on this because they are concerned more with company’s ability to pay interest over the original debt cost

we want Times Interest earned to be

higher

Operating Margin Formula

EBIT/Sales

Operating Margin Meaning

measures how much of a company’s sales are left in operating income after subtracting the operating costs

We want operating margins to be

high

Net Profit Margin Formula

net income/sales

net profit margin meaning

measures how much of a company’s sales are left over in net income after subtracting ALL costs

we want profit margin to be

high

ROA Formula (Return on total assets)

Net income/ total assets

ROA meaning

measures how profitable the company is with its total assets

we want ROA to be

high

Return on Common Equity Formula

net income/common Equity (CS +APIC + RE)

We want Return on Common Equity to be

higher

Return on Invested Capital Formula

EBIT (1-t) / total invest capital

Return on invest capital meaning

similar to ROA because total capital and total assets are the same but in the denominator only invested capital is used so not A/P or Accruals

We want ROIC to be

higher

Earnings per Share formula

net income/ number of shares outstanding

Earnings per share meaning

shows how much profit or income the company generated for each share of stock that is outstanding

Price/earnings ratio formula

price per share/earnings per share

Price/earnings ratio meaning

measures what investors are willing to pay for a share of stock for each dollar that the company earned per share.

we want price/earnings to be

a higher p/e ratio does indicate investors have a greater confidence in the future but that does not necessarily mean that the company will actually perform better in the future (just expectation)

price/earnings/growth rate (PEG) formula

P/E / 5 yr EPS growth rate

PEG meaning

The general rule states that a ratio equal to 1 indicates the company is fairly valued. This ratio above one means the company is overvalued and below one means undervalued

Price/Cash Flow formula

price per share/cash flow per share (net income + dep/number of shares)

Price/cash flow meaning

indicates how much investors are willing to pay for shares of stock for each dollar of cash flows generated by the company

Book value per share formula

common equity/shares outstanding

book value per share meaning

indicates how much per share investors have allowed the company to use

market/book ratio formula

price per share/ book value per share

market/book ratio meaning

the multiple in which mgmt has increased sotckholders’ wealth

ROE formula

NI/E

ROE broken down

ROA X Equity Multiplier

Profit Margin X Total Assets turnover X Equity Multiplier