CORPORATE FINANCIAL MANAGEMENT FOR STAKEHOLDERS – PART 2

Having to understand the ratio analysis for decision making was further explained. The ratio analysis was said to be an expression of the relationship between items in the financial statement of a single period. It is also referred to as the quantitative way of checking a firm’s functional efficiency, liquidity, revenues and profitability through the analysis of financial records and statements.  It is very important factor that will help in analysing a firm’s equity.

In using ratios and percentages, it is important to consider the underlying causes that may be hazardous to the health of an organization and lead to incorrect conclusion.

There are different categories of ratios. They are follows:

1. Liquidity Rations
2. Equity Ratios
3. Profitability Tests
4. Market Tests

The liquidity ratio is indicated in a company’s short-term debt -paying ability. It helps to have a view if the company can settle its short-term obligations.

Liquidity Ratios:  

1. Current (working capital) ratio – this is referred to as the working capital ratio. It is the difference between the current asset divided by current liabilities. It measures a company’s ability to pay short-term obligations or those due within one year.
2. Acid-test (quick) ratio – it compares a company’s most short-term assets to its most short-term liabilities in other to have the idea that a company y has enough cash to pay its immediate liabilities as well as the short-term debts. It disregards current assets that are difficult to liquidate easily such as inventory.

Other liquidity Ratio

• Cash flow liquidity ratio:

 i) Accounts receivable turnover-                                Sales on Account_______         

Average Accounts Receivable

ii) Number of days’ sales in accounts receivable                              365 Days___________                 

Accounts Receivable Turnover

iii) Inventory turnover –                                               Cost of Goods Sold

`                                               Average Inventory

Total assets turnover

The Equity (Long-Term Solvency) ratios shows the relationship between debt and equity financing in a company. It is better explained as a measure of the value of the assets financed using the owner’s equity. It is calculated by divided the company’s total equity by its total assets. It is used to determine the proportion on shareholder’s investment used to finance the company’s assets. It gives a clear view of the owner’s fund to the total fund invested in the business.

It is believed that the higher the proportion of the owner’s investment in a company the lower the degree of risk. It is called Gearing. Gearing is thought as leverage, and measured by various leverage ratios, such as the debt-to-equity (D/E) ratio. The investors get all the remaining assets left after paying off the liabilities.

Equity (Long-Term Solvency) Ratios

• Equity (stockholders’ equity) ratio: Equity to debt

Stockholders’ Equity

         Total Assets

Profitability Tests

In a profitability test, it relates to the income of the other variables. It is the assess of a company’s ability to earn profits from its sales or operations, balance sheets, or shareholders’ equity.

Return on operating assets

• Net income to net sales (return on sales or “profit margin”) –             Net Income  

     Net Sales

• Return on average common     stockholders’ equity (ROE)                          Net Income___         

              Average Common

            Stockholders’ Equity

Cash flow margin

• Earnings per share:                                          Earnings Available to Common Stockholders

Weighted-Average Number of Common Shares Outstanding

Times interest earned                                                   EBIT________

                                                                                    Interest Expenses

The learnings were filled with many experiences on what to look out for when making an investment decision. My investment decision should go with my knowledge of the financial statement of the company of my choice.

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