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Ratios Used To Evaluate Short Term Financial Position (Short Term Solvency and Liquidity)

This document defines and provides formulas for various financial ratios used to evaluate short-term and long-term financial position, liquidity, asset management efficiency, and profitability. It includes current ratios, acid-test (quick) ratio, working capital ratio, cash flow ratios, inventory turnover, accounts receivable turnover, debt ratios, return on equity, earnings per share, price-earnings ratio, and dividend payout ratio. An example calculates the acid-test (quick) ratio for a sample company using given current asset and liability values.

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MJ
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120 views

Ratios Used To Evaluate Short Term Financial Position (Short Term Solvency and Liquidity)

This document defines and provides formulas for various financial ratios used to evaluate short-term and long-term financial position, liquidity, asset management efficiency, and profitability. It includes current ratios, acid-test (quick) ratio, working capital ratio, cash flow ratios, inventory turnover, accounts receivable turnover, debt ratios, return on equity, earnings per share, price-earnings ratio, and dividend payout ratio. An example calculates the acid-test (quick) ratio for a sample company using given current asset and liability values.

Uploaded by

MJ
Copyright
© © All Rights Reserved
Available Formats
Download as DOCX, PDF, TXT or read online on Scribd
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RATIOS USED TO EVALUATE SHORT TERM FINANCIAL POSITION (SHORT TERM SOLVENCY AND LIQUIDITY)

NAME FORMULA SIGNIFICANCE


1. Current ratio Total Current Assets Primary test of solvency to meet current obligations
Total current Liabilities from current assets as a going concern measure
of adequacy of working
capital.

2. Acid test ratio or Total quick assets A more severe test of immediate solvency; test
quick ratio Total current liabilities of ability to meet demands from current assets

3.Working Capital to Working Capital Indicates relative liquidity solvency;


Total Assets test of ability to meet demands from current assets.

4. Cash flow liquidity Cash + Marketable Measures short term


Securities + cash liquidity by considering
Flow from operating as cash resources
activities cash plus cash equivalents
Current liabilities plus cash flow from
operating activities.

5. Defensive Interval ratio Quick Assets Measures length of time


projected Daily in days the firm can
operate on its present liquid resources.

RATIOS USED TO EVALUATE ASSET LIQUIDITY AND MANAGEMENT EFFICIENCY

NAME FORMULA SIGNIFICANCE


1. Trade receivable turnover Net credit sales Velocity of collection
Average Trade receivable of trade accounts and
(net) notes; test of efficiency of collection.

2. Average collection 360 Evaluates the liquidity


Receivable turnover of accounts receivable
and the firm’s credit
Accounts Receivable policies.
Net Sales/360
3. Inventory Turnover

a. Merchandise Cost of good sold Measures efficiency of


Average Trade the firm in managing and selling inventories.

4.Finished goods Cost of good sold -do-


Average Finished good
Inventory

5.Goods in process turnover Cost of goods Measures efficiency of


manufacture the firm in managing and selling inventories
Average goods in process
Inventory

6.Raw materials Raw materials used Number of times raw


Average Raw Materials Inventory materials inventory was used and
replenished during the period.

7.Days supply 360 days Measures average


In inventory Inventory turnover number of days to
sell or consume the
average inventory

8.Working capital Net sales Indicates adequacy and activity of


Ave. Working Capital working capital.
9.Percent of each Amount of each Indicates relative
Current asset to total current asset item investment in each
Current assets Total Current Assets current assets.

10. Current asset turn over Cost of Sales Measures movement


+ and utilization of
Operating Expenses + current resources to
Income Taxes meet operating
+ requirements
Other Expenses (net)
Excluding depreciation and
amortization
current assets

11.Payable turnover Net purchases Measure efficiency of


Ave. Accounts Payable the company in
meeting trade payable

12. Operating cycle Average Conversion Measures the length of


Period of Inventories time required to convert
+ cash to finished goods;
Average collection then to receivable
Period of Receivable and then back to cash
+ Day cash

RATIOS USED TO EVALUATE LONG – TERM FINANCIAL POSITION OR STABILITY/ LEVERAGE

1.Debt ratio Total Liabilities Shows proportion of all assets that


Total Assets are financed with debt.

2. Debt to equity ratio Total Liabilities Measures debt relative to amounts


Total equity of resources provided by owners.

3.Equity ratio Total Equity Indicates proportion of assets provided by owners.


Total Assets Reflects financial strength and caution to creditors.

4.Fixed assets to total equity Fixed assets (net) Measures the proportion of the owners capital
Total Equity invested in fixed assets.

5.Times interest earned Net income before Measures how many times interest
interest and Taxes expenses is covered by operating profits
Annual Interest Charges

6.Gross profit margin Gross profit Measures profit generated after


net Sales consideration of cost of product sold.

7.Operating profit margin Operating profit Measures profit generated after


Net Sales consideration of all expenses and revenues.

8.Net profit margin Net profit Measures profit generated after


Net Sales consideration of all expenses and revenues.

9.Return on assets Net profit Measures overall efficiency of the


Ave. Total Assets firm in managing assets and generating profit.

10.Return of return on equity Net income Measures rate of return on resources provided by owners.
Ave. Ordinary Equity

11. Earnings per share Net income less preference Peso return on each ordinary shares.
dividend requirement Indicative of ability to pay
Ave. ordinary outstanding share dividends.
12. Price earning ratio Market Value per share Measures relationship between price of
of ordinary shares ordinary shares in the open market and
Earnings per share of profit earned on a per share basis.
Ordinary share

13.Dividend Payout Dividends per share Shows percentage of earnings paid to shareholders.
Earnings per share

Current Assets:
Cash P2,400,000
Marketable Securities 7,500,000
Accounts Receivable 57,600,000
Inventories 66,300,000
Prepaid Expense 1,200,000
Total Current Assets P153,000,000
===========
Current Liabilities:
Notes Payable P1,500,000
Accounts Payable 19,500,000
Accrued Expenses 12,500,000
Income Tax Payable 500,000
Current Portion of long term Debt 3,500,000
Total Current Liabilities P37,500,000
What is the Acid test (quick) ratio?

Selected information for Vigor Company’s accounting records is as follows:


Net Accounts Receivable at December
31,2010 P900,000
Net Accounts Receivable at December
31, 2011 1,000,000
Inventories Dec. 31, 2010 1,100,000
Inventories Dec. 31, 2011 1,200,000
Accounts Receivable Turnover 5 to 1
Inventory Turnover 4 to 1
What was Vigor’s gross margin for 2011?

Selected information for 2011 for the Price Company is as follows:


Cost of good sold P5,400,000
Average inventory 1,800,000
Net sales 7,200,000
Average receivable 960,000
Net Income 720,000
Assuming a business year consisting of 360 days, what was the average number of days in operating cycle for 2011?

Royal Company’s net accounts receivable were P500,000 at December 31,2010, and 600,000 at
December 31, 2011. Net cash sales for 2011 were P200,000. The accounts receivable turnover for 2011 was 5.0.
What was Royal’s net sales for 2011?
During 2011, Red Incorporated purchased P2,000,000 of inventory. The cost of goods sold for 2011 was P2,200,000 and
the ending inventory at December 31, 2011 was P400,000. What was the inventory turnover for 2011?
Selected information from Code Company’s accounting records is as follows:
Cost of goods sold 2011 P1,200,000
Inventories for 2010 320,000
Inventories for 2011 310,000
Assuming a business year consisting of 300 days, what was the number of days,, sales in average inventories for 2011?

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