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Ratio Analysis: Simple Tools To Analyze The Financial Condition & Performance Of Your Company By Stephen Windhaus It's one thing to learn the meaning of financial statements. Generally, once you learn how they are developed, it is rather easy to read them. But there is a third step in the evaluation process -- using ratio analysis with those financial statements to interpret the financial condition and performance of your company. Ratio analysis is a prerequisite procedure when bankers and other lenders evaluate your loan application. These simple formulas evaluate your firm's performance or the projected financial statements you submit in anticipation of how your company will succeed with the use of loan proceeds. And when the numbers are 'crunched' the lender compares your company's results with those of existing businesses in the same type of product or service industry as yours. Probably the most compared set of ratios are those compiled by Robert Morris Associates in their Annual Statement Studies database. There are hundreds of ratio formulas that can be applied to a comprehensive set of financial statements, but for the scope of this column we will limit ourselves to 4 different formulas in 3 different categories. They are very common and most useful to small business: 1.Liquidity ratios including the current and quick formulas. 2.Coverage ratio of earnings before interest and taxes. 3.Operating ratio of net sales-to-net fixed assets. These should be sufficient to become familiar with the analysis process. Liquidity ratios are designed to measure your company's ability to meet current liabilities with current assets. In other words, are you able to generate sufficient funds, by liquidating current assets, to pay off the current debt? The first, most common tool is the current ratio. This equals: Total Current Assets / Total Current Liabilities  |
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