A few financial ratios can tell you how healthy your business is each month. Track these ratios consistently and you can spot problems brewing and take appropriate actions to improve your business. Lenders love to calculate ratios for your business. This allows them to compare your business to similar businesses to assess risks. You need to know what these ratios mean and how to improve them.

Financial ratios are relationships determined from a company’s financial information and are used for comparison purposes. These account balances are found on one of the company’s financial statements such as the balance sheet, income statement, cashflow statement, and/or statement of changes in owner’s equity.

**Current Ratio:**

The Current Ratio is a liquidity ratio that measures a company’s ability to pay short-term and long-term obligations. This ratio measures whether your business has enough resources to pay its bills (invoices) over the short term. Generally the higher the ratio, the better. Bankers will rely on this ratio when evaluating your company for a loan.

The formula is: Current Ratio = Current Assets/Current Liabilities

**Total Debt Ratio:**

The Total Debt Ratio is a financial ratio that indicates the percentage of a company’s assets that are provided via debt. . This measures your business’s long-term solvency.

The formula is: Total Debt Ratio = Total Debt/Total Assets

**Profit Margin:**

This measures profit as a percentage of revenue (sales). You should try to constantly improve this percentage over time. If the percentage decreases, investigate this for corrective action.

The formula is: Profit Margin = Net Income/Revenue

**A sampling of ratios include:**

#### 1. Short Term Solvency or Liquidity Ratios

** Current ratio **= Current assets / Current liabilities

** Quick ratio** = (Current assets – inventory) / Current liabilities

** Cash ratio** = Cash / Current liabilities

** Net Working Capital **= Net working capital / Total assets

** **2. Long Term Solvency or Financial Leverage Ratios

** Total debt ratio** = (Total assets – total equity) / Total assets

** Debt to Equity ratio** = Total debt / Total equity

** Equity Multiplier **= Total assets / Total equity

** Long Term Debt ratio** = Long Term Debt / (Long Term Debt + Total Equity)

** Times interest earned** = Earnings before Interest & Taxes / Interest

** Cash coverage ratio** = (Earnings before Interest & Taxes + Depreciation) / Interest

#### 3. Asset Use or Turnover Ratios

** Inventory turnover** = Cost of goods sold / Inventory

** Days’ sales in Inventory** = 365 days / Inventory turnover

** Receivables turnover** = Sales / Accounts receivable

** Days’ sales in receivables** = 365 days / Receivables turnover

** Net Working Capital (NWC) turnover** = Sales / Net Working Capital

** Fixed asset turnover** = Sales / Net fixed assets

** Total asset turnover** = Sales / Total assets

#### 4. Profitability Ratios

** Profit Margin **= Net income / Sales

** Return on Assets (ROA)** = Net income / Total assets

** Return on Equity (ROE)** = Net income / Total equity

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