- On February 27, 2019
When you’re running a business, it’s easy to get caught up in the day-to-day activity and lose sight of the big picture. Taking stock of the health of your business is important. Financial ratios can help in Analysing trends, Knowing where you allow for more effective planning, early warning about any issues, and the chance to better chart a course for success.
There are some quick financial ratios that will help you in order to gauge the health of your business. We can help you to assess your business health and show you how to calculate these vital checks.
Liquidity Financial Ratios
Liquidity ratios are about how quickly you can turn your business assets into cash – which helps you assess whether you’ll be able to pay the bills.
High ratios are better, as this means you’ve got more assets than liabilities.
Current ratio = Total current assets / Total current liabilities
As a general guideline, 2:1 is a good current ratio, but this does depend on the kind of industry you’re in and the nature of the assets and liabilities.
Quick ratio = (Current assets – stock on hand) / Current liabilities
This measure excludes your existing stock, which you may not be able to quickly turn into cash, and is seen as a more realistic quick snapshot of your position.
Solvency Financial Ratios
Solvency ratios look at sources other than cash flow to see whether your business will be able to settle debts.
Leverage ratio = Total Liabilities / Equity
This is a measure of whether your business is reliant on debt financing or equity to fund your assets. A higher ratio can make it harder to borrow money.
Debt to assets
Debt to assets = Total liabilities / Total assets
This tells you what percentage of assets is being financed by liabilities.
Profitability Financial Ratios
Profitability ratios will let you know how efficient your business operations are. Where possible, it’s good to measure your business against others in your industry.
Gross margin ratio
Gross margin ratio = Gross profit / Total sales
This ratio tells you whether you can cover the necessary business overheads from your sales.
Net margin ratio
Net margin ratio = Net profit / Total sales
This measure tells you the percentage of sales dollars left after you’ve settled your expenses, except for your income taxes.
Checking in on your business health is a great habit to get into. Using these Financial ratios helps you to understand your current business health and allows you to plan. Please reach out to us if you have any questions or sign up above for email series on understanding financial statements.
General Advice Warning
The information contained on this web site is general in nature and does not take into account your personal situation. You should consider whether the information is appropriate to your needs, and where appropriate, seek professional advice.
Taxation, legal and other matters referred to on this website are of a general nature only and are based on our interpretation of laws existing at the time and should not be relied upon in place of appropriate professional advice.