Business Ratios

Business ratios are a set of 22 different analytical formulas used to evaluate the overall value an performance of a business. In general, a sophisticated entrepreneur will utilize no less than a dozen of the business ratios to gain an overall understanding of the financial status of a company.

Operating Profit Margin – Formula and Understanding

Operating Profit Margin - Formula and Understanding

Operating profit margin refers to the value earned as a percentage of net sales.   The operating profit is often referred to as earnings before interest, taxes, depreciation and amortization, (EBITDA).   This is a misleading reference as operating profit is actually defined differently by industry sector.   EBITDA is used primarily in valuing businesses.

Debt Ratio

Debt Ratio

Every business buys on account whether it is a traditional vendor account like that found in retail or simply using a credit card.   A third party provides credit which creates debt for the business.    The debt ratio reflects the percentage of assets covered by debt. 

Fixed Assets Turnover Rate

Fixed Assets Turnover Rate

The fixed assets turnover rate is another activity ratio whereby an income statement financial characteristic is compared to a balance sheet asset section.    In this case, comparing adjusted sales against historical cost of fixed assets.   This financial business ratio is only effective for business operations that are fixed asset intensive.  So with service based industries like carpet cleaning, professional firms and medical practices this particular ratio is impractical.

Cash Ratio

Cash Ratio

One of the liquidity ratios used in business is the cash ratio.  It is a much more effective tool for small business than the traditional current or quick ratio.  Although the cash ratio is more difficult to manipulate in small business, most entrepreneurs miscalculate the result

Business Ratios (Introduction)

Percentage of Completion

Ratios are used in business to compare companies of different sizes within the same industry. The goal is to discover the best investment for return on your stock purchase.  Business ratios essentially equalize different size companies within the same industry.  A common mistake is to compare two different industries within the same sector (explained below).

Debt to Equity Ratio

Another leverage ratio used to evaluate the financial integrity of a business is the debt to equity ratio.  It is strictly a bottom half balance sheet ratio.  Its result explains the relationship of volume of debt and corresponding equity to finance the operations of a business, i.e. the purchase of assets.

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