Ratios

Question 1

Return on Investment (ROI)

Answer 1

= Income ÷ Total Assets

Question 2

Liquidity

Answer 2

• the ability of a company to pay its debt as they come due.

- liquidity ratios measure ST ability of the company to pay its maturing obligations.

Question 3

Working Capital

Answer 3

= current assets - current liabilites

• positive working capital –> greater likelihood that the company will pay its liabilities.
• negative working capital –> company might not be able to pay ST creditors, and might ultimately be forced into bankruptcy.

Question 4

Current Ratio

Answer 4

= current assets ÷ current liabilities

ex: current ratio of 2:1 means that for every dollar of current liabilities, the company has $2 of the current asset.

Question 5

Solvency

Answer 5

• company’s abilities to pay interest as it comes due and to repay the balance of a debt due at its maturity.
• solvency ratio measures the ability of the company to survive over a longer period of time.

Question 6

Debt to Asset Ratio

Answer 6

= Total Liabilities ÷ Total Assets

The debt to asset ratio of 60% means that every dollar of assets was financed by 60 cents of debt.

The higher the ratio, the more reliant the company is on debt financing.

Question 7

Debt to Equity Ratio

Answer 7

= Total Liabilities ÷ Stockholder’s Equity

Question 8

Free Cash Flow

Answer 8

-describes the cash remaining from operations after adjusting for capital expenditures and dividends.

Net cash provided by operating activities

• capital expenditures
• cash dividend

Question 9

Profitability Ratios

Answer 9

-measure the income or operating success of a company for a given period of time.

Question 10

Earnings Per Share

Answer 10

-measures the net income earned on each share of common stock.

= (Net Income - Preferred Dividends) ÷ Average Common Shares Outstanding

Question 11

Intracompany Comparisons

Answer 11

-covering two years for the same company.

Question 12

Industry-average Comparisons

Answer 12

-based on average ratios for particular industries.

Question 13

Intercompany Comparisons

Answer 13

-comparisons with a competitor in the same industry.

Question 14

Gross Profit Rate

Answer 14

= Gross Profit / Net Sales

-measures the margin by which selling price exceeds COGS.

Question 15

Profit Margin

Answer 15

= Net Income / Net Sales

-measures the % of each dollar of sales that results in net income.

Question 16

Quality of Earning Ratios

Answer 16

= Net Cash Provided by Operating Activities / Net Income

• Less than 1, aggressive accounting techniques, record income in the earlier period.
• Greater than 1, conservative accounting techniques, delay the recognition of income.