1. Current Ratio/ Banker's Ratio/ Working Capital Ratio Itis a measure of adequacy of working capital. It is the primary test of solvency to meet, current obligations from current assets, Computed as follows: Current Assets + Current Liabilities 2. Quick Ratio/ Acid Test Ratio It measures the number of times that the current liabilities could be paid with the available cash and near-cash assets (ex. Cash, marketable securities and current receivables). Computed as follows: Quick Ratio = Quick Assets + Current Liabili Quick assets refer to assets owned by a company with a commercial or exchange value that can easily be converted into cash or that are already in a cash form. Quick assets are therefore considered to be the most highly liquid assets held by a company. Commonly, it is composed of cash, marketable securities (or short-term investments) and accounts receivable, Inventories and prepaid expenses are not quick assets because they can be difficult to convert to cash, and deep discounts are sometimes needed to do so.3.5.3 Working Capital Activity Ratios/ Efficiency Ratios Asset management ratios (also called turnover, efficiency, and sometimes activity ratios) measure how effectively the firm is managing its assets. These ratios answer this question: Does the amount of each type of asset seem reasonable, too high, or too low in view of current and projected sales? Activity ratios are used to determine how quickly various accounts are converted into sales or cash. Overall liquidity ratios generally do not give an adequate picture of a company’s real liquidity, due to differences in the kinds of current assets and liabilities the company holds. Thus, it is necessary to evaluate the activity or liquidity of specific current accounts. Various ratios exist to measure the activity of receivables, inventory, and total assets 1, Receivables Turnover It is the time required to complete one collection cycle from the time receivables are recorded, and then collected, to the time new receivables are recorded again. Computed as follows: Receivable Turnover = Net Credit Sales + Average Receivables 2. Average Age of Receivables/ Average Collection Period/ Days’ Sales in Receivables It indicates the average number of days during which the company must wait before receivables are collected. Computed as follows: Average Collection Period = # of Working Days + Receivables Turnover 3. Inventory Turnover It measures the number of times that the inventory is replaced during the period. Computed as follows: Inventory Turnover = Cost of Goods Sold + Average Merchandise Inventory 4. Average Age of Inventory/ Inventory Conversion Period/ Days’ Sales in Inventory It indicates the average number of days during which the company must wait before the inventories are sold. Computed as follows: ‘Average Age of Inventory = # of Working Days + Inventory Turnover5. Raw Materials Turnover The number of times raw materials are replaced or revolved during an accounting period. Computed as follows: RM Turnover = Cost of Materials Used + Ave. Raw Materials Inventory 6. Work in Process Turnover ‘The number of times work in process inventory revolved during the accounting period. Computed as follows: WIP Turnover = Cost of goods manufactured + Ave. WIP inventory 7. hed goods turnover ‘The number of times finished goods inventory revolved or are replaced during the accounting period. Computed as follows: FG Turnover = Cost of goods sold + Ave. FG inventory 8. Normal Operating Cycle The period of time required to convert cash into raw materials, raw materials into inventory finished goods, finished good inventory into sales and accounts and accounts receivable into cash, Computed as follows: receivable, Normal Operating Cycle = Ave. Age of Invty. + Ave. Age of Rec. 9. Trade Payables Turnover Itis the time required to complete one payment cycle from the time trade Computed as follows: payables are recorded, and then paid, to the time new trade payables are recorded again. ‘TP Turnover = Net Credit Purchases + Ave. Trade Payables10. Average Age of Trade Payables/ Payable Deferral Period/ Days’ Purchases in Payables It indicates the length of time during which payables remain unpaid. Computed as follows: AD Period = # of working days + Payables Turnover 11.Current Assets Turnover It measures the movement and utilization of current assets to meet operating requirements, Computed as follows: CA Turnover = Cost of Sales + Operating Expenses** + Ave. Current Assets "These exclude depreciation, amortization and other expenses related to long-term assets. 3.54 Solvency Ratios Solvency ratios (sometimes called leverage, coverage, and capital structure ratios) measure a company’s long-term ability to pay its debts as they become due. Leverage refers to how much of company’s resources are financed by debt and/or preferred equity, both of which require fixed payment of interests and dividends. Leveraging means using other people’s money to generate profit for a company. Solvency is a company’s ability to meet it long-term obligations as they become due. An analysis of solvency concentrates on the long-term financial and operating structure of the business. The degree of long-term debt in the capital structure is also considered. Further, solvency is dependent upon profitability since in the long run a firm will not be able to meet its debts unless it is profitable. When debt is excessive, additional financing should be obtained primarily from equity sources. Management might also consider lengthening the maturity of the debt and staggering the debt repayment dates. 1. Times Interest Earned It determines the extent to which operations cover interest expense. Computed as follows: Times Interest Earned = EBIT = Int. Expense 2. Debt to Equity Ratio This refers to the proportion of assets provided by creditors compared to that provided by owners.Computed as follows: Debt to Equity Ratio = Total Liabilities + Total SHE Debt Ratio Refers to the proportion of total assets provided by the creditors. Computed as follows: Debt Ratio = otal Liabilities + Total Assets Equity Ratio Refers to the proport on of total assets provided by owners. Computed as follows: Equity Ratio = Total SHE + Total Assets Working Capital Turnover Indicates adequacy of working capital to support operations (sale). Computed as follows: WC Turnover = Net Sales + Ave. Working Capital Defensive Interval Ratio Measures coverage of current liabilities Computed as follows: DIR = Current Liabilities + Cash & Cash Equivalents Payable Turnover Measures efficiency of the company in meeting the accounts payable. Computed as follows: Payable Turnover = Net Purchases + Ave. Accounts Payable Fixed Asset to Long-term Liabilities Reflects extent of the utilization of resources from long-term debt. Indicative of sources of additional funds. Computed as follows: FA to LTL = Fixed Assets + Long-term Liabilities3.5.5 Profitability Ratios Profitability ratios measure a company’s success (or failure) in earning a profit. Recall that profit exists when revenues exceed expenses. Profitability ratios are not the same as liquidity ratios because @ company can be profitable but have liquidity problems. How can this be the case? Perhaps a company has made many credit sales rather than cash sales, and so the revenue is recorded and profits have increased. But perhaps many customers have not paid what they owe the company, and so the cash hasn't flowed in yet. Bills cannot be paid with accounts receivable but must be paid with cash. Thus, it is possible for a company to be profitable and insolvent at the same time Liquidity ratios are important for a company’s short-term success (how long can a company stay in business if it cannot pay its bills when they are due?). Profitability ratios are important for a company’s long-term success (how long can a company stay in business if its expenses exceed its revenues on a continuous basis?).. An indication of good financial health and how effectively the firm is being managed is the company’s ability to earn a satisfactory profit and return on investment. Investors will be reluctant to associate themselves with an entity that has poor earning potential since the market price of stock and dividend potential will be adversely affected. Creditors will shy away from companies with deficient profitability since the amounts owed to them may not be paid. Absolute dollar profit by itself has little significance unless it is related to its source. Profitability ratios compute the relationship between profit and some other financial statement item, such as assets, sales, equity, or shares of common stock outstanding. 1. Return on Sales This determines the portion of sales that went into the company’s earnings. Computed as follows: ROS = Income + Net Sales 2, Return on Assets ‘This refers to the efficiency with which assets are used to operate the business. Computed as follows: ROA = Income = Ave. Assets 3. Return on Equity Measures the amount earned on the owners’ or stockholders’ investment. Computed as follows: income + Ave. Equity4, Earnings per Share Measures the amount of net income earned by each common share. Computed as follows: EPS = Net Income - P/S Div. + WACSO 5. Rate of return on Average Current Assets leasures profitability of current assets invested. = Computed as follows: RoR on Ave. CA = Income + Ave. Current Assets 6. Operating profit margin Measures profit generated after consideration of operating costs. Computed as follows: OPM = Operating Profit + Net Sales 7. Cash Flow Margin Measures the ability of the firm to translate sales to cash Computed as follows: CEM = Operating Cash Flow = Net Sales3.5.6 Marketability Ratios Market ratios relate the firm's market value, as measured by its current share price, to certain accounting values. These ratios give insight into how investors in the marketplace feel the firm is doing in terms of risk and return. They tend to reflect, on a relative basis, the common stockholders’ assessment of all aspects of the firm’s past and expected future performance. 1. Price-Earnings Ratio It indicates the number of pesos required to buy P1 of earnings. Computed as follows: /E Ratio = Price Per Share + EPS 2. Dividend Yield Ratio Measures the rate of return in the investor's common stock investments, Computed as follows: Div. Yield Ratio = Div. Per Share + Price per Share 3. Dividend Payout Ratio It indicates the proportion of earnings distributed as dividends Computed as follows: Div. Payout Ratio, iv. per Share + EPS 4. Book Value per Share Measures recoverable amount by common stockholders in the event of liquidation if assets are realized at their book values. Computed as follows: BVPS = Common SHE + CS outstanding 5. Times Preferred Dividends Earned It indicates ability to provide dividends to preferred stockholders. Computed as follows: imes PS Div. Earned = Net Income after Tax + PS Div. 6. Capital Intensity Ratio Measures efficiency of the firm to generate sales through employment of its resources. Computed as follows: Capital Intensity Ratio = Total Assets + Net Sales7. Times Fixed Charges Earned Measures ability to meet fixed charges. Computed as follows: TFCE = Net Income before taxes & charges + Fixed charges + sinking fund payment** ** Fixed charges shail include reat, interests and other relevant fixed expenses; sinking fund payment must be expressed before tax.