Ch3 Ratios Flashcards
can a company pay off it’s debt
liquitidy ratios
current ratio
current assets / current liabilities
where are current assets and current liabilities found?
balance sheet
what document give you current ratio?
balance sheet
current assets normally include
Current assets normally include cash, marketable securities, accounts receivable,
and inventories.
Brigham, Eugene F.; Ehrhardt, Michael C. (2013-01-28). Financial Management: Theory & Practice (Finance Titles in the Brigham Family) (Page 99). Cengage Textbook. Kindle Edition.
current liabilities:
Current liabilities consist of accounts payable, short-term notes
payable, current maturities of long-term debt, accrued taxes, and other accrued
expenses.
Brigham, Eugene F.; Ehrhardt, Michael C. (2013-01-28). Financial Management: Theory & Practice (Finance Titles in the Brigham Family) (Page 99). Cengage Textbook. Kindle Edition.
figure out a question
If current
liabilities are rising faster than current assets, then the current ratio will fall, and this
could spell trouble.
Brigham, Eugene F.; Ehrhardt, Michael C. (2013-01-28). Financial Management: Theory & Practice (Finance Titles in the Brigham Family) (Page 99). Cengage Textbook. Kindle Edition.
best single indicator of short-term solvency
Because the current ratio provides the best single indicator of the
extent to which the claims of short-term creditors are covered by assets that are
expected to be converted to cash fairly quickly, it is the most commonly used measure
of short-term solvency.
Brigham, Eugene F.; Ehrhardt, Michael C. (2013-01-28). Financial Management: Theory & Practice (Finance Titles in the Brigham Family) (Page 99). Cengage Textbook. Kindle Edition.
why might a shareholder not want a high current ratio?
Now consider the current ratio from a shareholder’s perspective. A high current ratio
could mean that the company has a lot of money tied up in nonproductive assets, such as
excess cash or marketable securities. Or perhaps the high current ratio is due to large
inventory holdings, which might become obsolete before they can be sold. Thus, shareholders might not want a high current ratio.
Brigham, Eugene F.; Ehrhardt, Michael C. (2013-01-28). Financial Management: Theory & Practice (Finance Titles in the Brigham Family) (Page 99). Cengage Textbook. Kindle Edition.
?
For example, suppose a low current ratio is traced to low inventories. Is this a
competitive advantage resulting from the firm’s mastery of just-in-time inventory
management, or is it an Achilles’heel that is causing the firm to miss shipments
and lose sales?
Brigham, Eugene F.; Ehrhardt, Michael C. (2013-01-28). Financial Management: Theory & Practice (Finance Titles in the Brigham Family) (Page 99). Cengage Textbook. Kindle Edition.
quick ratio or acid test
The quick ratio, also called the acid test ratio, is calculated by deducting inventories from
current assets and then dividing the remainder by current liabilities:
Brigham, Eugene F.; Ehrhardt, Michael C. (2013-01-28). Financial Management: Theory & Practice (Finance Titles in the Brigham Family) (Page 99). Cengage Textbook. Kindle Edition.
liquid asset
A liquid asset is one that trades in an active market, so it can be converted quickly to cash
at the going market price.
Brigham, Eugene F.; Ehrhardt, Michael C. (2013-01-28). Financial Management: Theory & Practice (Finance Titles in the Brigham Family) (Page 99). Cengage Textbook. Kindle Edition.
what are the liquidity ratios and what is the difference
current ratio
quick ratio
what asset is typically the least liquid?
inventories
why is the quick ratio important
Inventories are typically the least liquid of a firm’s current
assets; hence they are the current assets on which losses are most likely to occur in a
bankruptcy. Therefore, a measure of the firm’s ability to pay off short-term obligations
without relying on the sale of inventories is important.
Brigham, Eugene F.; Ehrhardt, Michael C. (2013-01-28). Financial Management: Theory & Practice (Finance Titles in the Brigham Family) (Page 99). Cengage Textbook. Kindle Edition.
asset management ratios
Asset management ratios measure how effectively a firm is managing its assets.
Brigham, Eugene F.; Ehrhardt, Michael C. (2013-01-28). Financial Management: Theory & Practice (Finance Titles in the Brigham Family) (Page 100). Cengage Textbook. Kindle Edition.
total assets turnover ratio
The total assets turnover ratio measures the dollars in sales that are generated for each
dollar that is tied up in assets:
sales / total assets
Brigham, Eugene F.; Ehrhardt, Michael C. (2013-01-28). Financial Management: Theory & Practice (Finance Titles in the Brigham Family) (Page 100). Cengage Textbook. Kindle Edition.
fixed assets turnover ratio
The fixed assets turnover ratio measures how effectively the firm uses its plant and
equipment. It is the ratio of sales to net fixed assets:
Brigham, Eugene F.; Ehrhardt, Michael C. (2013-01-28). Financial Management: Theory & Practice (Finance Titles in the Brigham Family) (Page 101). Cengage Textbook. Kindle Edition.
DSO
Days sales outstanding (DSO), also called the“average collection period”(ACP), is
used to appraise accounts receivable, and it is calculated by dividing accounts
receivable by average daily sales to find the number of days’sales that are tied up
in receivables.
Brigham, Eugene F.; Ehrhardt, Michael C. (2013-01-28). Financial Management: Theory & Practice (Finance Titles in the Brigham Family) (Page 101). Cengage Textbook. Kindle Edition.
NOWC
?
inventory turnover ratio
The inventory turnover ratio is defined as costs of goods sold (COGS) divided by
inventories.
2
Brigham, Eugene F.; Ehrhardt, Michael C. (2013-01-28). Financial Management: Theory & Practice (Finance Titles in the Brigham Family) (Page 102). Cengage Textbook. Kindle Edition.
inventory turnover ratios
COGS / Inventories
four asset management ratios
total asset turnover
fixed asset turnover
DSO
Inventory turnover
four asset management ratios
total asset turnover
fixed asset turnover
DSO
Inventory turnover
financial leverage
The extent to which a firm uses debt financing is called financial leverage.
Brigham, Eugene F.; Ehrhardt, Michael C. (2013-01-28). Financial Management: Theory & Practice (Finance Titles in the Brigham Family) (Page 103). Cengage Textbook. Kindle Edition.
debt ratio
total debt / total assets
debt to equity ratio
total debt / total equity
x dollar of debt of x dollar of equity
market debt ratio
total debt / (debt+market value of equity)
The liabilities-to-assets ratio is defined as:
Brigham, Eugene F.; Ehrhardt, Michael C. (2013-01-28). Financial Management: Theory & Practice (Finance Titles in the Brigham Family) (Page 105). Cengage Textbook. Kindle Edition.
total liabilities / total assets
TIE ratio
The times-interest-earned (TIE) ratio, also called the interest coverage ratio, is determined
by dividing earnings before interest and taxes (EBIT in Figure 3-1) by the interest expense:
EBIT / Interest expense
Brigham, Eugene F.; Ehrhardt, Michael C. (2013-01-28). Financial Management: Theory & Practice (Finance Titles in the Brigham Family) (Page 105). Cengage Textbook. Kindle Edition.
Du Pont
The DuPont equation uses two ratios we covered previously, the profit margin and the
total asset turnover ratio, as measures of profitability and asset efficiency. But it also uses a
new measure of financial leverage, the equity multiplier, which is the ratio of assets to
common equity:
Brigham, Eugene F.; Ehrhardt, Michael C. (2013-01-28). Financial Management: Theory & Practice (Finance Titles in the Brigham Family) (Page 116). Cengage Textbook. Kindle Edition.
ROA
Return on assets (ROA) is an indicator of how profitable a company is relative to its total assets. ROA gives an idea as to how efficient management is at using its assets to generate earnings. Calculated by dividing a company’s annual earnings by its total assets, ROA is displayed as a percentage. Sometimes this is referred to as “return on investment”.
The formula for return on assets is:
Return On Assets (ROA)
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ROA
net income / tot assets
ROE
Return on equity (ROE) is the amount of net income returned as a percentage of shareholders equity. Return on equity measures a corporation’s profitability by revealing how much profit a company generates with the money shareholders have invested.
ROE is expressed as a percentage and calculated as:
Return on Equity = Net Income/Shareholder’s Equity
Read more: Return On Equity (ROE) http://www.investopedia.com/terms/r/returnonequity.asp#ixzz4iQ8SDylj
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ROE
Return on equity (ROE) is the amount of net income returned as a percentage of shareholders equity. Return on equity measures a corporation’s profitability by revealing how much profit a company generates with the money shareholders have invested.
ROE is expressed as a percentage and calculated as:
Return on Equity = Net Income/Shareholder’s Equity
Read more: Return On Equity (ROE) http://www.investopedia.com/terms/r/returnonequity.asp#ixzz4iQ8SDylj
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ROE
Net Income/Shareholder’s Equity
a perpetuity is
annuity that never ends
PV = PMT / i
