# Tools of analysis; RATIO

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Tools of analysis; RATIO

## 1. Leverage

### 1.1. extent of firm's activities financed by borrowing (externally)

1.1.1. Debt Ratio

1.1.1.1. tells proportion of assets financed with debts

1.1.1.1.1. Eg. Ratio of 0.55 = 55% of total A financed by  borrowing (L)

1.1.1.1.2. HIgher Debt ratio % = higher riskiness of co.

1.1.2. Times-Interest-Earned Ratio (interest cover)

1.1.2.1. no. of times operating income can cover interest expense

1.1.2.1.1. Eg. Ratio of 4.24 times = recurring (periodical) income is 4.24 times of interest payments

1.1.2.1.2. higher ratio -- more profit \$\$ to cover interest payment

1.1.2.2. no. of times recurring income thats avail to cover interest payments

## 2. Profitability

### 2.1. - allow investors, creditors, managers to evaluate the extent of invested funds are that are being used efficiently - earning ability of company

2.1.1. Net-Profit Margin

2.1.1.1. Eg. ratio of 0.06= every \$1 net sales generates \$0.06 of net profit (or NP margin =6%)

2.1.1.2. high margin-- more net sales \$ providing profit to biz and fewer NS \$ absorbed by expenses

2.1.2. Return on Total Assets

2.1.2.1. company's success in using A to earn profit

2.1.2.1.1. Eg. ratio of 13% = every \$1 asset ->profit of \$0.13

2.1.3. Return on Ordinary Shareholders' Equity

2.1.3.1. shows r/s between NP and s/o investment in co.

2.1.3.1.1. Eg. Ratio of 13% = every \$1 invested by ordinary s/o earns NP of \$0.13

2.1.4. Earnings per Share (EPS)

2.1.4.1. amt of net income per share of co.'s ordinary shares issued

2.1.4.2. measures NP attributable to one ordinary share

2.1.5. Price-Earnings (PE) Ratio

2.1.5.1. ratio of market price of a share to company's earnings (indicates stock values)

2.1.5.2. high PE = invetors willing to pay more to buy shares of co. they think has good prospects

## 3. LIquidity

### 3.1. - ability of company to meet current obligations - ability to pay off debts

3.1.1. Current Ratio

3.1.1.1. ability to pay its debts

3.1.1.1.1. Eg. Ratio of 1.85 = every \$1 firm owes, it has \$1.85 of CA that can be converted into cash to pay its debt

3.1.1.1.2. Desirable ratio = 2 --> more CA (than CL) that’s convertible into cash to pay off debts (depending on industry of Co.) the higher the better

3.1.2. Quick/Acid-Test Ratio

3.1.2.1. indicates if entity can pay all CL if they come due immediately

3.1.2.1.1. Eg. Ratio of 1.01 = every \$1 of short-term debt is backed by \$1.01 of cash/near-cash assets

3.1.2.2. ability to pay short-term debts

3.1.2.3. better measure(> current ratio) for liquidity

## 4. Efficiency

### 4.1. efficiency of firm in utilisation & management of resources/assets

4.1.1. AR/Debtors Turnover Ratio

4.1.1.1. ability to collect cash frm credit customers

4.1.1.2. Low ratio = 1) Cash tied up in debtors 2) Higher risk of bad debts

4.1.1.2.1. Eg. Ratio of 7.53 = during the yr, AR collected on average of 7.53 TIMES

4.1.1.2.2. Debtor collection period (365/AR ratio) eg. 48 days -- Average no. of dats between sale of product and receipt of payment = 48 days

4.1.2. Inventory Turnover Ratio

4.1.2.1. - how fast able to sell off inventory - no. of times company sells average level of inventory during yr

4.1.2.1.1. Eg. Ratio of 4.54 times = during the yr, company sells inventory on average of 4.54 times

4.1.2.1.2. Stock holding period/No. of days it takes to sells stocks = 365/inventory turnover