Financial ratio analysis

Financial ratios

Financial ratios (in English: Financial Ratios) constitute a set of relationships that are associated with the financial information of a particular facility. These ratios are used to compare several financial results. Examples of financial ratios include return on assets (ROA), return on investment (ROI), And other types of ratios that help in the success of the financial measurement process, or knowing the facility’s account balances during a specific period of time.

Financial ratio analysis

Analysis of Financial Ratios (in English: Analysis of Financial Ratios) is a method used to compare a group of financial accounts by using mathematical methods. This analysis helps to understand the nature of business performance. By providing financial information to the company’s management, creditors, and investors, financial ratio analysis is also an administrative tool that contributes to business development. By studying the financial results based on the use of indicators to measure and analyze the organizational performance of a company.

Types of financial ratios

The analysis of financial ratios depends on the use of a group of types of ratios that contribute to determining the financial results of the business. Below is information about the most important types of these ratios:

Income ratios

Income ratios are classified into the following types:

• Operating assets turnover rate: It is a percentage calculated when an increase in sales value appears. Which leads to an increase in the need to obtain more assets, and if the opposite appears, then the amount of sales is insufficient, and this percentage is expressed through the following law:

Net sales / total operating assets = operating asset turnover rate

Value of total operating assets = total assets – (long-term investments + intangible assets).

• Net sales to total tangible value: It is the rate of personal investment in the business that is considered appropriate for sales, and is expressed using the following law:

Net Sales / Net Tangible Value = Net Sales to Total Tangible Value

Net tangible value = owners equity - intangible assets

• Gross margin on net sales: It is a rate used to analyze the changes that appear over a group of years, and helps evaluate credit policies, and the company’s promotion or purchasing processes. This rate is expressed through the following law:

Gross Margin / Net Sales Amount = Your Total Margin in Net Sales

Gross profit margin = net sales volume - cost of goods sold

• The value of operating income to net sales ratio: It is a ratio that contributes to clarifying the profits resulting from business sales, and it is expressed using the following law:

Operating income / net sales value = operating income to net sales ratio

Profitability ratios

Profitability ratios (in English: Profitability Ratios) are ratios that are directly related to income ratios, and are concerned with clarifying the financial returns resulting from investment and sales operations. Below is information about the most important types of these ratios:

• Gross profit from net sales: It is a ratio that contributes to clarifying the rate of total profit. If it continually declines below the average profit margin, then this indicates that something is not right, and is an indication of the emergence of some problems in the future. This ratio is expressed using the following law:

(Net sales value - cost of goods sold) / net sales value = total profit from net sales

• Net profit from net sales value: It is a ratio that helps provide an initial assessment of the net profit of the investment, and is expressed using the following law:

Earnings after taxes / net sales = net profit from net sales value

• Rate of return on management; It is a comparison of the profit ratio between operating assets and operating income. It is referred to as the total of fixed assets and net capital, and is expressed by the following law:

Value of operating income / (fixed assets + net capital) = rate of return on management

Liquidity ratios

Liquidity ratios are useful ratios for bankers, suppliers, and creditors. They are also considered important ratios for financial managers who are interested in following up on the payment of obligations to suppliers. These ratios are divided into the following types:

• Current ratio: It is a measurement of the balance between current assets and current liabilities. This ratio helps detect any changes that appear in the balance sheet list. The current ratio is expressed through the following law:

(current assets / current liabilities) = current ratio; Whereas current assets are the net value of the expected obligations on all securities that will be due to be received, while current liabilities are all debts that will be due within one year.

• Quick ratio: It is a financial ratio that helps determine the extent of the ability to convert current assets into money that contributes to covering all the value of current liabilities. The quick ratio is expressed using the following law:

(Cash + Securities + Net Accounts Receivable) / Current Liabilities = Quick Ratio

• Absolute liquidity ratio: It is a means that helps eliminate any violations that may affect financial dues. This percentage is expressed in the following law:

(Money + Current Liabilities) = Absolute Liquidity Ratio

• Receivables turnover: It is an indicator used to indicate financial liquidity and the turnover ratio for financial receivables, which indicates the role of management in using the invested funds to pay the value of the financial receivables. The turnover in receivables is expressed using the following law:

Total sales on credit / average amount of money receivable = accounts receivable turnover

• Average collection period: It is about choosing the type of work that is due; Which helps determine the average during the collection period. By relying on a basic rule in which the value of the financial amounts due for receivable must not exceed the value of the amounts that will be due within a period of time ranging from 10 to 15 days. The average collection period is expressed by the following law:

(Accounts + Notes Receivable) / ((Net Annual Credit Sales) / 365 days) = Average Collection Period