What are Financial Ratios?
Financial ratios are created with the use of numerical values taken from financial statements to
gain meaningful information about a company. The numbers found on a company’s financial
statements – balance sheet, income statement, and cash flow statement – are used to
perform quantitative analysis and assess a company’s liquidity, leverage, growth, margins,
profitability, rates of return, valuation, and more.
Financial ratios are grouped into the following categories:
Liquidity ratios
Leverage ratios
Efficiency ratios
Profitability ratios
Market value ratios
Analysis of financial ratios serves two main purposes:
1. Track company performance
Determining individual financial ratios per period and tracking the change in their values over
time is done to spot trends that may be developing in a company. For example, an increasing
debt-to-asset ratio may indicate that a company is overburdened with debt and may eventually
be facing default risk.
2. Make comparative judgments regarding company performance
Comparing financial ratios with that of major competitors is done to identify whether a company
is performing better or worse than the industry average. For example, comparing the return on
assets between companies helps an analyst or investor to determine which company is making
the most efficient use of its assets.
Users of financial ratios include parties external and internal to the company:
External users: Financial analysts, retail investors, creditors, competitors, tax authorities,
regulatory authorities, and industry observers
Internal users: Management team, employees, and owners
Return on equity:
It is a measure of financial performance calculated by dividing net income by shareholders' equity.
Because shareholders' equity is equal to a company’s assets minus its debt, ROE is considered the return on net assets.
So the formula that we are going to use here is :
ROE = NET INCOME (annual) **what do we mean by annual ba? – taon/yearly
Average Equity
Net income over the last full fiscal year, or trailing 12 months,(**san ba natin makikita ito?) is found on the income
statement—a sum of financial activity over that period. Shareholders' equity comes from the balance sheet—a running
balance of a company’s entire history of changes in assets and liabilities.
It is calculated by dividing a company's earnings after taxes (EAT) by the total shareholders' equity, and multiplying
the result by 100%.
The higher the percentage, the more money is being returned to investors. This ratio helps business owners and
financing professionals determine a company's financial health. Ibig sabihin efficient ang isang company sa pag generate
ng income at pagpapalago dito from its equity financing.
Debt to equity ratio:
Also called the (“debt-equity ratio”, “risk ratio”, or “gearing”), is a leverage ratio that calculates the weight of total debt
and financial liabilities against total shareholders’ equity.
So the formula that we are going to use here is:
D/E = TOTAL DEBT
S/H EQUITY
So ano nga ba yung tinutukoy natin na total debt dito?
A company’s total debt is the sum of short-term debt, long-term debt, and other fixed payment obligations (such as
capital leases) of a business that are incurred while under normal operating cycles.
(in addition sa formula na baka maencounter natin soon and matackle ni sir is etong Long formula:
Debt to Equity Ratio = (short term debt + long term debt + fixed payment obligations) / Shareholders’ Equity)
Not all current and non-current liabilities are considered debt.
*Considered debt:
Drawn line-of-credit - revolving credit,that is arranged between a bank and a business.
Notes payable (maturity within a year)-
Current portion of Long-Term Debt -)- with a maturity of longer than one year
Notes payable (maturity more than a year)
Bonds payable
Long-Term Debt
Capital lease obligations
*Not considered debt:
Accounts payable
Accrued expenses
Deferred revenues
Dividends payable
Debt ratio:
Measures the relative amount of a company’s assets that are provided from debt.
Formula:
Debt ratio = total funded debt/total assets
The total funded debt – both current and long term portions – are divided by the company’s total assets in order to
arrive at the ratio. This ratio is sometimes expressed as a percentage (so multiplied by 100).
Equity Ratio:
Equity ratio uses a company’s total assets (current and non-current) and total equity to help indicate how leveraged the
company is: how effectively they fund asset requirements without using debt.
Indicates the percentage of the company’s assets that are financed by capital. A high equity to asset ratio implies a high
level of capital.
The formula is simple: Total Equity / Total Assets
Equity ratios that are .50 or below are considered leveraged companies; those with ratios of .50 and above are
considered conservative, as they own more funding from equity than debt.
