FIN 300


Financial Ratios

Lecture 3

Financial Ratios



  • Performance
  • Activity
  • Short-Term Liquidity
  • Long-Term Solvency

Performance

Profitability Based

  • Profit Margin
    • $\text{Profit Margin} = \dfrac{\text{Net Income}}{\text{Sales}} $

  • Earnings per Share (EPS)
    • $\text{Earnings per Share} = \dfrac{\text{Net Income}}{\text{Shares Outstanding}} $

Market Based


  • Price-to-Earnings (PE)
    • $ \text{Price-to-Earnings} = \dfrac{\text{Share Price}}{\text{Earnings per Share}}$

  • Market-to-Book (MB)
    • $\text{Market to Book Ratio} = \dfrac{\text{Share Price}}{\text{Book Value per Share}}$

Activity

  • Involve turnover
    • Efficiency

    • $ Inventory\; Turnover = \dfrac{Cost\; of\; Goods\; Sold}{Inventory} $

    • Too much inventory is not efficient

Short Term Liquidity


    • $\text{Current Ratio} = \dfrac{\text{Current Assets}}{\text{Current Liabilities}}$


    • Quick Ratio removes inventory:

      $\text{Quick Ratio} = \dfrac{\text{Current Assets} - \text{Inventory}}{\text{Current Liabilities}}$


$\text{Cash Ratio} = \dfrac{\text{Cash}}{\text{Current Liabilities}}$

Long-Term Solvency



  • $\text{Debt to Equity Ratio} = \dfrac{\text{Total Debt}}{\text{Total Equity}}$


    • $\text{Cash Coverage Ratio} = \dfrac{\text{EBIT + Depreciation}}{\text{Interest Expense}}$


    • Remember: OCF = EBIT + Depreciation - Taxes

Summary

  • Performance
      Profitability and Market

  • Activity

  • Short-Term Liquidity
      Day-to-day cash availability

  • Long-Term Solvency