Leveraging Your Business Asset Through Ratio Management

Below is an excerpt from my upcoming third book My Happy Assets - Taking the Last Steps to Financial Independence.

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“It’s important to understand John that if you are going to truly step outside your business and work on the business instead of so much in the business, then you need to get some leverage in your management. That leverage, in addition to the ability to read and interpret your financial statements, comes from management through financial ratios.”

Ratio analysis is useful to compare year-to-year performance and to compare across industries. There are four main categories of financial ratios:

1. Liquidity

2. Asset management

3. Profitability

4. Leverage

Liquidity Ratios

Current Ratio = Current Assets / Current Liabilities

Quick Ratio = (Cash + Receivables) / Current Liabilities

Asset Management Ratios

Inventory Turn = Cost of Goods Sold / Inventory

Asset Turn Ratio = Annual Sales / Assets

Receivable Days = (Receivables x 365) / Annual Sales

Profitability Ratios

Return on Assets = Net Income / Total Assets

Return on Equity = Net Income / Shareholder’s Equity

Return on Sales = Net Income / Net Sales

Gross Margin = (Net Sales – Cost of Goods Sold) / Net Sales

Leverage Ratios

Debt to Equity = (Current + Long Term Debt)/ Shareholders’ Equity

Debt Ratio = (Current + Long Term Debt) / Total Assets