FINANCIAL RATIOS

Financial ratios are a great way to compare how you are doing over time, to diagnose any issues, or to see how one company in a similar industry stacks up against another. Here are some of the most common.

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Debt-to-Equity 
Financial leverage: How much debt is used to finance your assets. 
Formula: 
Debt-to-Equity = Total Liabilities / Shareholder Equity 
➡️ A high debt-to-equity ratio indicates that a company is primarily financed by debt rather than equity, which may increase financial risk.

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Current Ratio 
Liquidity: Your company's ability to pay back short-term obligations. The higher the ratio, the higher the capability. 
Formula: 
Current Ratio = Current Assets / Current Liabilities 
➡️ A current ratio greater than 1 indicates that the company has more current assets than current liabilities, which suggests good short-term financial health.

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Return on Equity (ROE) 
Profit generated with money invested by shareholders. 
Formula: 
ROE = Net Income / Shareholder's Equity (%)  
➡️ A higher ROE means the company is effectively generating profit from shareholder investments.

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Net Profit Margin 
Efficiency at cost control in converting revenue into profit. The higher the number, the better. 
Formula: 
Net Profit Margin = Net Profit / Net Sales 
➡️ A high net profit margin indicates that the company is effective at controlling costs and generating profit from sales.

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FINANCIAL RATIOS - EXAMPLES

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1. Debt-to-Equity Example 
Company XYZ has the following financial data: 
- Total Liabilities = $500,000 
- Shareholder Equity = $250,000 

Formula: 
Debt-to-Equity = Total Liabilities / Shareholder Equity 

Calculation: 
Debt-to-Equity = 500,000 / 250,000 = 2 

➡️ The Debt-to-Equity ratio is 2. This means that the company has $2 of debt for every $1 of shareholder equity, which indicates high financial leverage. 

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2. Current Ratio Example 
Company ABC has the following financial data: 
- Current Assets = $120,000 
- Current Liabilities = $80,000 

Formula: 
Current Ratio = Current Assets / Current Liabilities 

Calculation: 
Current Ratio = 120,000 / 80,000 = 1.5 

➡️ The Current Ratio is 1.5. This indicates that the company has $1.50 of current assets for every $1 of current liabilities, which suggests healthy liquidity. 

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3. Return on Equity (ROE) Example 
Company DEF has the following financial data: 
- Net Income = $50,000 
- Shareholder's Equity = $200,000 

Formula: 
ROE = Net Income / Shareholder's Equity * 100 

Calculation: 
ROE = (50,000 / 200,000) * 100 = 25% 

➡️ The Return on Equity (ROE) is 25%. This means that the company generates a 25% return on shareholder investments, which is a strong performance. 

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4. Net Profit Margin Example 
Company GHI has the following financial data: 
- Net Profit = $30,000 
- Net Sales = $150,000 

Formula: 
Net Profit Margin = Net Profit / Net Sales * 100 

Calculation: 
Net Profit Margin = (30,000 / 150,000) * 100 = 20% 

➡️ The Net Profit Margin is 20%. This means that the company retains $0.20 as profit for every $1 in sales, showing good cost efficiency. 

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