Chapter 3 : Financial Ratio Analysis

Financial Ratios

Standardized measures calculated from financial statements to evaluate a firm’s performance

Current ratios

Overall Short-term liquidity

Quick ratios

Liquidity excluding inventory

Cash ratios

Ability to pay using cash only

Equity multiplier

Measures the degree of financial leverage

Debt-to-Equity ratio

Compares debt financing with equity financing

Times interest earned

Uses operating earnings to measure interest coverage

Cash coverage

Adds depreciation back because depreciation is a non-cash experience

Inventory turnover

How quickly inventory is sold and replenished

Days’ sales in inventory

Average number of days inventory remains in stock

Recevables turnover

How quickly customers pay

Days’ sales in receivables

Average collection period

Return on Equity

Measures the return earned on SHs’ equity

Return on Assets

Measures profit generated per unit of assets

Profit marging

Measures the proportion of sales retained as net income

Retention ratio

Proportion of earnings reinvented in the firm

Dividend Payout ratio

Proportion of earnings distributed to SHs

Internal Growth rate

Maximum growth financed only through retained earnings

Sustainable Growth rate

Maximum Growth while maintaining the debt-to-equity ratio

P/E

Price investors pay per unit of earnings

PEG

P/E adjusted for expected growth

Price-to-sales

Useful when earnings are negative or volatile

market-to-book

Market valuation relative to accounting equity

Tobin’s Q

Market value relative to asset replacement cost

EBITDA

Earning before interests, taxes, depreciation and amortization