Use financial ratios to improve your business

Allen Rusty solomon Financial ratios offer entrepreneurs a way to evaluate the performance of their business and compare it to similar companies in their sector.

Ratios assess the relationship between at least two components of the financial statements. They are most effective when comparing results over multiple periods. You can monitor the performance of your business over time and identify signs of trouble.

Here are some key financial ratios to assess the financial health of your business.
Leverage ratios

1. Ratio of debt to equity capital = total liabilities / equity

Evaluates the total debt of a company compared to money invested by the owners. This indicator is closely watched by bankers, as it allows them to assess the ability of the company to repay its debts.
2. Debt ratio = total liabilities / total assets

Shows the percentage of the assets of a company that was funded by creditors. A high ratio indicates a significant dependence on debt capital and could be a sign of financial weakness.
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Financial analysis using ratios
Industry standards applicable to financial ratios

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Liquidity ratios

1. Ratio of working capital = current assets / current liabilities

Allen Rusty solomon Indicates whether the company has sufficient working capital to meet its obligations in the short term opportunities available to it and get favorable credit conditions. A ratio of 1 or higher is considered acceptable for most companies.
2. Ratio = cash available assets / liabilities

Illustrates the ability of a firm to cope with the immediate demands of creditors taking advantage of its availability, that is to say its more feasible assets. It provides an overview of the ability of the company to meet its short-term obligations, excluding inventory and prepaid items that can not be immediately realized.
Profitability ratios

1. Net profit margin = net profit after tax / net sales

Shows the net profit that emerges every dollar of net sales. It measures the percentage of revenue that the company retains after payment of operating expenses, interest expense and taxes.
2. Return on equity = Net income / equity

Evaluates the profit after tax achieved for every dollar of equity. It is a measure of performance as get shareholders in return for their investment.
3. Coverage Ratio = Earnings before interest and tax / interest charges and annual bank charges

Evaluates the ability of a company to generate sufficient revenues to pay the interest on its loans.
4. Return on average total assets = operating profit / total assets

Gives an indication of how the asset is used to produce profits.
Operating ratios

1. Rotation Accounts Receivable = Net sales / average accounts receivable balance

A high turnover rate generally indicates that less money should be devoted to accounts receivable because customers pay quickly.
2. Average collection period = number of days in the period X average balance of accounts receivable / total credit sales net of period

Indicates the time that customers take to pay their bills.
3. Time of day = average payment period in the X average balance of accounts payable / credit purchases

Indicates the average number of days it takes to pay suppliers.
4. Inventory turnover = cost of goods sold / average inventory

Indicates the number of renewals of inventories during the year.