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Need Help Interpreting Financial Statements?

First Published on smallville.com.au

EFFICIENCY RATIOS


1. Debtor Days

This is an analysis that shows how quickly customers are paying their accounts, or in other words, how many days you are providing credit to your customers.


It is determined by taking the closing Debtor (or Accounts Receivable) balance at the end of the period and dividing it by the average Sales per day (Sales / number of days in period).  This is a useful check against previous periods and the smaller the number the better your cash flow is going to be.


2. Inventory Days

This ratio is to provide the owner with a gauge as to how long they are holding inventory for.  Depending on the information you have access to, it is best broken down into different inventory categories, to better guide you how you can improve ordering efficiencies and whether discounting may need to be applied.


It is calculated by taking the Cost of Sales for the period divided by the Average Inventory (average of both the Opening & Closing).  The smaller the number the more frequent your inventory turns over.


OPERATIONS CHECK


1. Creditor Days

This ratio is somewhat similar to the abovementioned Debtors Days, however it calculates how efficiently you, as the customer, are utilising the credit terms offered to you by your suppliers.


It is calculated by taking the closing Creditors (or Accounts Payable) figure at the end of the period and dividing it by the average Cost of Sales per day (i.e Cost of Sales divided by the number of days in the period of review).


2. Working Capital Ratio

This ratio helps the manager understand the businesses liquidity or how well it can function moving forward.  It is calculated by taking the total of the Current Assets and dividing it by the total of the Current Liabilities.  Ideally, you want the number to be greater than 1, which means you have enough liquid assets to cover your immediate debts.


3. Short Term Debt Ratio

The Short Term Debt Ratio is calculated by taking the Profit and adding back Depreciation then dividing this by the Current Liabilities.  The ratio shows the business’ ability to fund its short-term debts without having to sell down any current assets.  Current Assets usually include Cash, Receivables, Inventory and Deposits and possibly any short-term investments or loans.


PROFITABILITY RATIO


1. Gross Profit Ratio

The Gross Profit is a good first check to see where any profitability problems lie.  The calculation is Sales – Cost of Sales then compared back to the Sales to provide a percentage.  Ideally, you want this percentage to stay steady or increase over time.  It is a quick way to see if your prices are too low or if your purchases are costing too much.  As a guide retail industries generally see ratios of 50%, restaurants generally 80% and professional services are around 65%.


2. Net Profit Ratio 

Ah, my favourite ratio of all, when this is up, the happier all business owners become… It is calculated by taking the Net Profit and comparing it back against the Sales to provide a percentage.


Now you can apply some of these key ratios to your business and may everyone’s Net Profit Ratio increase each and every period.


19 Kommentare


Ritik Chauhan
Ritik Chauhan
4 days ago

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Manish Singh
Manish Singh
4 days ago

Thank you for providing this valuable breakdown of efficiency ratios and financial metrics! Grasping important ratios such as debtor days, inventory days, and working capital is essential for assessing a business’s cash flow and operational health. Your thorough explanations offer a solid foundation for any business owner aiming to enhance financial performance, for additional support with your business’s tech-related issues, feel free to visit my blog on ContactHelp support for expert assistance.


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Manish Singh
Manish Singh
4 days ago

Thank you for sharing this insightful breakdown of efficiency ratios and financial metrics! Understanding key ratios like debtor days, inventory days, and working capital is crucial for evaluating a business’s cash flow and operations. Your detailed explanations provide a great foundation for any business owner looking to improve financial performance.

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Ritik Chauhan
4 days ago

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