Financial Ratio Formulas Checklist

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This Financial Ratio Formulas checklist provides you with a list of the most popular financial ratios used to assess an organization's performance, solvency, profitability and investment potential. It includes general notes on how to make valid comparisons and which financial statements you will need to make these calculations.

Financial ratios are used in two ways: for internal analysis of items in a balance sheet and for comparative analysis of an organization's ratios at different time periods and in comparison to others in the same sector. These ratios can be divided into three groups:

Solvency ratios are used to measure the ability of an organization to meet its long-term debts. It is common practice to calculate both the current ratio and quick ratio. This is so that you are aware of the extent to which stock held influences its current assets. These calculations will quickly show you if the level of stock an organization holds is too great and also whether it matches your expectations of the industry. You must always be careful when drawing conclusions from these ratios. It is quite possible that an organization may appear to be desperately short of working capital, but if it sells goods for cash and purchases with a long credit line, then it may be that it is being very well managed.

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Profitability ratios measure an organization's ability to generate earnings relative to sales, assets and equity and in doing so, highlight how effectively the profitability of a company is being managed. They are derived from the income statement and balance sheet information and divide an income or margin figure by the total revenue or total equity. Many people consider profitability ratios to be the most important overall and it is useful to compare the results with a return that can be obtained outside of the organization - for example, a low-risk investment in government bonds. The organization's return on assets can be improved either by increasing profitability or decreasing the capital employed.

Performance ratios measure how efficiently an organization uses and controls its assets as well as how effectively it is collecting money from customers etc. Typical performance ratios include: gearing, number of days credit granted, number of days credit taken, stock turnover, and overheads as a percentage of turnover. Gearing compares the finance provided by lenders with the finance invested by shareholders.

Number of days credit granted is used to measure the effectiveness of an organization's debt collection. Number of days credit taken sets out the number of days the organization takes to pay its suppliers. Stock turnover shows how quickly the organization turns over stock into sales.

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