FSA Note: Summary of Financial Ratio Calculations

This note contains a summary of the more common financial statement ratios. A few points should be noted:
• Calculations vary in practice; consistency and the intuition underlying the calculated ratio are important. This list is not exhaustive.
• A firm’s fiscal year end often corresponds to the point in time at which business activity is at its lowest. Hence, ratios calculated using
internal data at different points in the year may differ significantly from those based on published financial statements.

Pictorial Summary of Common Financial Ratios

Asset Return to
Liquidity Debt Management Management Profitability Investors

Short Run Liquidity of Amount of Coverage of Operating Margins Returns Earnings per
Solvency Current Debt Debt Efficiency Share
Assets

Current ratio Collection Debt to assets Times interest Receivable Gross profit ROIC ROE
period earned turnover margin

Quick ratio Days Debt to CFO to Inventory Operating Cash ROA ROCE
inventory equity interest turnover profit margin
held

Cash ratio Days Long term CFO to debt Fixed asset Net profit ROA Dividend
payables debt to total turnover margin yield
outstanding capital

CFO ratio Net trade Cash flow Asset ROE Dividend

cycle adequacy turnover payout

Defensive Return on P/E

interval assets

(Not all ratios are represented in this picture; some ratios pertain to more than one category.)

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 Numerator
Liquidity Ratios Interpretation and benchmark
Denominator
Short-term debt paying ability. Current assets less current liabilities =
Current assets
“working capital,” the relatively liquid portion of an enterprise that serves
Current ratio = as a safeguard for meeting unexpected obligations arising within the
Current liabilities
ordinary operating cycle of the business.
Benchmark: PG, HA, ROT (>2)
Cash + marketable securities + net receivables
Immediate short-term liquidity
Quick (acid-test) ratio =
Benchmark: PG, HA, ROT (>1)
Current liabilities
Cash + marketable securities More conservative than quick ratio as it excludes net receivables (all of
Cash ratio = which may not be collected)
Current liabilities Benchmark: PG, HA, ROT (>40-50%)
CFO
Ability to repay current liabilities from operations
CFO ratio =
Benchmark: PG, HA, ROT (>40-50%)
Average current liabilities
365 X Quick ratio numerator
Conservative view of firm’s liquidity. Compares currently available quick
Defensive interval =
sources of cash with estimated outflows needed to operate.
(Cash burn rate) Projected expenditures (= COGS + Other
Benchmark: PG, HA
operating expenses except depreciation)
Note: you may have used a different definition from corporate finance.
Working capital = Current assets – Current liabilities Please use this definition for FSA.

Abbreviations for benchmarks:

ROT: rule of thumb.
EB: economic benchmark.
PG: peer group average.
HA: firm’s historical average.
Note: The rule of thumb numbers vary significantly depending on whose “thumbs” we are talking about. Provided here are the often-seen numbers.
Industry peer and firms’ historical average are always useful benchmarks.

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Activity Ratios
Receivable turnover =
Average receivables collection day =
Inventory turnover =
Average days inventory in stock =
Payables turnover =
Average days payables outstanding =
Operating cycle =
Net trade cycle or cash cycle =
Working capital turnover =
Fixed asset turnover =
Asset turnover =
Average PPE age =
Average PPE useful life =
Numerator
Interpretation and Benchmark
Denominator
Net sales
Liquidity of receivables
Benchmark: PG, HA
Average net trade receivables
Effectiveness of firm’s credit policies and level of investment in
365
receivables needed to maintain firm’s sales level. Average
number of days until A/R collected.
Receivable turnover
Benchmark: PG, HA
Cost of goods sold (COGS)
Liquidity of inventory
Benchmark: PG, HA
Average total inventory
365
Average number of days inventory held until sold.
Benchmark: PG, HA
Inventory turnover
COGS + change in inventory = Purchases
Importance as source of financing for operating activities
Benchmark: PG, HA
Average accounts payable
365
Average number of days until payables are paid
Benchmark: PG, HA
Payables turnover
Indicates the days in the normal operating cycle.
Receivables collection days + Inventory holding days
Benchmark: PG, HA
Indicates the days in the normal cash conversion cycle of the firm.
Operating cycle - Average days payables outstanding
Benchmark: PG, HA
Net sales
Amount of operating capital needed to maintain a given sales level
Benchmark: PG, HA
Average working capital
Net sales
Efficiency of fixed assets (productive capacity) in generating sales
Benchmark: PG, HA
Average net fixed assets
Net sales
Efficiency of asset use in sales generation
Benchmark: PG, HA
Average total assets
Accumulated depreciation
Estimate of how long the average fixed asset has been held.
Benchmark: PG, HA
Depreciation expense
Estimate the average useful (depreciable) life of PPE assets. If
Ending balance of gross PPE
annual data are used this ratio estimates the number of years of
estimated useful life.
Depreciation expense
Benchmark: PG, HA
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 Numerator
Profitability Ratios Interpretation and Benchmark
Denominator
Net income
Profitability of all equity investors’ investment
Return on equity (ROE) =
Benchmark: EB (Cost of equity capital), PG, HA
Average total shareholders’ equity
Net Income + Interest expense * (1-tax rate)
Overall profitability of assets. Sometimes called return on investment (ROI).
Return on assets (ROA) =
Benchmark: EB (WACC), PG, HA
Average total assets
NOPAT = EBIT * (1- tax rate) Overall profitability of invested capital. Sometimes called return on capital
Return on invested capital (ROIC) =
employed (ROCE) or return on net operating assets (RNOA).
(See Course Note for details)
Average invested capital Benchmark: EB (WACC), PG, HA
Net sales – COGS = Gross margin Captures the relation between sales generated and manufacturing (or merchandising)
Gross profit margin on sales = costs
Net sales Benchmark: PG, HA
EBIT
Measures profitability independently of an enterprise’s financing and tax positions
Operating Margin =
Benchmark: PG, HA
Net sales
Net income
Net income generated by each sales dollar
Net profit margin on sales =
Benchmark: PG, HA
Net Sales
CFO
Measures return on assets on “cash” basis.
Cash return on assets =
Benchmark: PG, HA
Average total assets
Net income less preferred dividends
Net income earned per common share
Earnings per share (EPS) =
Benchmark: PG, HA
Weighted common shares outstanding
Market price of stock
Ratio of market price to earnings per share
Price earnings ratio (P-E) =
Benchmark: PG, HA
Earnings per share
Market value of equity Ratio of the market’s valuation of the enterprise to the book value of the enterprise
Market to book ratio = on its financial statements.
Book value of equity Benchmark: PG, HA
Cash dividends paid on common equity Percentage of earnings distributed as cash dividends. Note: Some firms/analysts
Dividend Payout = calculate this using cash dividends declared in the numerator instead.
Net income Benchmark: PG, HA
Cash dividends paid per share of common equity
Percentage of share price distributed as cash dividends
Dividend Yield =
Benchmark: PG, HA
Price per share

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FSA formulas
 Numerator
Solvency Ratios Interpretation and Benchmark
Denominator
Percentage of total assets provided by creditors. Total debt is a subset of total
Total debt liabilities. Typically, you sum total long term debt and the current portion of long
Debt to total assets = term debt in the numerator. Other additions might be made: notes payable,
Total assets capital leases, and operating leases if capitalized.
Benchmark: EB (optimal capital structure), PG, HA
Total debt
Percentage of total assets provided by owners.
Debt to equity =
Benchmark: EB (optimal capital structure), PG, HA
Total shareholders’ equity
Degree to which enterprise uses owners’ capital to finance assets. We’ll calculate
Total (average) assets
this ratio using the averages of the balance sheet accounts to facilitate our ratio
Financial leverage =
decomposition.
Total (average) shareholders’ equity
Benchmark: EB (optimal capital structure), PG, HA
EBIT Ability to meet interest payments as they mature. EBIT is sometimes called
Times interest earned (TIE) = Operating Income.
Interest expense Benchmark: PG, HA, ROT (minimal 2-4)
Ability to meet interest payments from operating cash flow. Some analysts
CFO + interest and taxes paid in cash calculate the numerator using CFO + interest expense + tax expense. This
CFO to interest = calculation is less internally consistent as what we are striving for in the
Interest expense numerator is a cash flow number, not a mix of cash flow and accruals.
Benchmark: PG, HA, ROT (>=2-4)
CFO + interest and taxes paid in cash Ability to repay total liabilities in a given year from operations. See caveat above
CFO to debt = regarding numerator.
Average total liabilities Benchmark: PG, HA, ROT (?)
CFO Measures how many times capital expenditures, debt repayments, cash dividends
Cash flow adequacy = covered by CFO.
CAPEX + debt and dividends payments Benchmark: PG, HA, ROT (1)
Common shareholders’ equity Amount each share would receive if company were liquidated at the amounts
Book value per share = reported on the balance sheet
Outstanding shares Benchmark: none
Operating cash flow + accruals = operating earnings. This ratio gives an
CFO
indication of how much CFO differs from operating earnings due to accounting
CFO to Operating earnings =
accruals.
Operating earnings
Benchmark: PG, HA, ROT (>1).

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FSA formulas