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
- $ 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
- Activity
- Short-Term Liquidity
Day-to-day cash availability
- Long-Term Solvency