imp ratios

1. Some important ratios and there usage
Whats the use of Ratios ?
Typically, financial ratios provide the most benefit when they are compared with other
identical ratios.
A company's ratios are used comparatively in two main fashions: over time and against
other companies. Comparing the same ratios for a firm over time is a great way to identify a
company's trends. If certain ratios are steadily improving, it may suggest an improvement in
a company's operations or financial situation; conversely, if certain ratios seem to be getting
worse, it may highlight some troubling prospects about the firm.
It's also important to compare a company's ratios against those of others in the industry. A
company's ratios may be improving over time, but how do they stack up against their peers'
ratios? If they aren't as rosy as those of competitors, this may indicate that the company
isn't as well positioned or managed as well as other industry players.
Efficiency ratios
No matter what kind of business a company is in, it must invest in assets to perform its
operations. Efficiency ratios measure how effectively the company utilizes these assets, as
well as how well it manages its liabilities.
Inventory Turnover.
Inventory turnover illustrates how well a company manages its inventory levels. If inventory
turnover is too low, it suggests that a company may be overstocking or overbuilding its
inventory or that it may be having issues selling products to customers. All else equal, higher
inventory turnover is better.
Inventory Turnover = (Cost of Sales) / (Average Inventory)

2. Accounts Receivable Turnover.
The accounts receivable turnover ratio measures how effective the company's credit
policies are. If accounts receivable turnover is too low, it may indicate the company is being
too generous granting credit or is having difficulty collecting from its customers. All else
equal, higher receivable turnover is better.
Accounts Receivable Turnover = Revenue / (Average Accounts Receivable)
Accounts Payable Turnover
You'll notice that the accounts payable turnover ratio uses a liability in the equation rather
than an asset, as well as an expense rather than revenue. Accounts payable turnover is
important because it measures how a company manages paying its own bills. High accounts
payable turnover may be a signal that a firm isn't receiving very favorable payment terms
from its own suppliers. All else equal, lower payable turnover is better.
Accounts Payable Turnover = (Cost of Sales) / (Average Accounts Payable)
Total Asset Turnover.
Total asset turnover is a catch-all efficiency ratio that highlights how effective management
is at using both short-term and long-term assets. All else equal, the higher the total asset
turnover, the better.
Total Asset Turnover = (Revenue) / (Average Total Assets)

3. Liquidity ratios
In a nutshell, a company's liquidity is its ability to meet its near-term obligations, and it is a
major measure of financial health. Liquidity can be measured through several ratios.
Current ratio.
The current ratio is the most basic liquidity test. It signifies a company's ability to meet its
short-term liabilities with its short-term assets. A current ratio greater than or equal to one
indicates that current assets should be able to satisfy near-term obligations. A current ratio
of less than one may mean the firm has liquidity issues.
Current Ratio = (Current Assets) / (Current Liabilities)
Quick Ratio.
The quick ratio is a tougher test of liquidity than the current ratio. It eliminates certain
current assets such as inventory and prepaid expenses that may be more difficult to convert
to cash. Like the current ratio, having a quick ratio above one means a company should have
little problem with liquidity. The higher the ratio, the more liquid it is, and the better able
the company will be to ride out any downturn in its business.
Quick Ratio = (Cash + Accounts Receivable + Short-Term or Marketable
Securities) / (Current Liabilities)
Cash Ratio.
The cash ratio is the most conservative liquidity ratio of all. It only measures the ability of a
firm's cash, along with investments that are easily converted into cash, to pay its short-term
obligations. Along with the quick ratio, a higher cash ratio generally means the company is
in better financial shape.
Cash Ratio = (Cash + Short-Term or Marketable Securities) / (Current
Liabilities)

4. Leverage ratios
A company's leverage relates to how much debt it has on its balance sheet, and it is another
measure of financial health. Generally, the more debt a company has, the riskier its stock is,
since debtholders have first claim to a company's assets. This is important because, in
extreme cases, if a company becomes bankrupt, there may be nothing left over for its
stockholders after the company has satisfied its debtholders.
Debt/Equity.
The debt/equity ratio measures how much of the company is financed by its debtholders
compared with its owners. A company with a ton of debt will have a very high debt/equity
ratio, while one with little debt will have a low debt/equity ratio. Assuming everything else
is identical, companies with lower debt/equity ratios are less risky than those with higher
such ratios.
Debt/Equity = (Short-Term Debt + Long-Term Debt) / Total Equity
Interest Coverage.
If a company borrows money in the form of debt, it most likely incurs interest charges on it.
(Money isn't free, after all!) The interest coverage ratio measures a company's ability to
meet its interest obligations with income earned from the firm's primary source of business.
Again, higher interest coverage ratios are typically better, and interest coverage close to or
less than one means the company has some serious difficulty paying its interest.
Interest Coverage = (Operating Income) / (Interest Expense)

5. Profitability ratios
How good is a company at running its business? Does its performance seem to be getting
better or worse? Is it making any money? How profitable is it compared with its
competitors? All of these very important questions can be answered by analyzing
profitability ratios.
Gross Margin.
gross profit is simply the difference between a company's sales of goods or services and
how much it must pay to provide those goods or services. Gross margin is simply the
amount of each dollar of sales that a company keeps in the form of gross profit, and it is
usually stated in percentage terms. The higher the gross margin, the more of a premium a
company charges for its goods or services. Keep in mind that companies in different
industries may have vastly different gross margins.
Gross Margin = (Gross Profit) / (Sales)
Operating Margin.
Operating margin captures how much a company makes or loses from its primary business
per dollar of sales. It is a much more complete and accurate indicator of a company's
performance than gross margin, since it accounts for not only the cost of sales but also the
other important components of operating income we discussed in Lesson 301, such as
marketing and other overhead expenses.
Operating Margin = (Operating Income or Loss) / Sales
Net Margin.
Net margin considers how much of the company's revenue it keeps when all expenses or
other forms of income have been considered, regardless of their nature. While net margin is
important to take note of, net income often contains quite a bit of "noise," both good and
bad, which does not really have much to do with a company's core business.
Net Margin = (Net Income or Loss) / Sales

6. Free Cash Flow Margin.
The free cash flow margin simply measures how much per dollar of revenue management is
able to convert into free cash flow.
Free Cash Flow Margin = (Free Cash Flow) / Sales
Return on Assets (ROA).
Return on assets measures a company's ability to turn assets into profit. (This may sound
similar to the total assets turnover ratio discussed earlier, but total assets turnover
measures how effectively a company's assets generate revenue.)
Return on Assets = (Net Income + Aftertax Interest Expense) / (Average
Total Assets)
You'll notice that we are adding back the company's aftertax interest expense to net income
in the calculation. Why is that? Return on assets measures the profitability a company
achieves on all of its assets, regardless if they are financed by equity holders or debtholders;
therefore, we add back in what the debtholders are charging the company to borrow
money.
Return on assets is generally stated in percentage terms, and higher is better, all else equal.
Return on Equity (ROE).
Return on equity is a straightforward ratio that measures a company's return on its
investment by shareholders. Like all of the profitability ratios we've discussed, it is usually
stated in percentage terms, and higher is better.
Return on Equity = (Net Income) / (Average Shareholders' Equity)