Financial Ratios Lecture Notes

Introduction

• Presenter: James
• Topic: Financial Ratios
• Objective: Explain financial ratios, categorize them, and calculate 25 ratios in 25 minutes.
• Acknowledgment of channel members' support.

Financial Statements

• Financial Ratio Analysis begins with financial statements:
  • Income Statement: Summarizes revenues and expenses over a period.
  • Balance Sheet: Snapshot of assets, liabilities, and equity at a specific time.
  • Cash Flow Statement: Not primarily used for calculating ratios but important.
• Financial ratios primarily derived from the Income Statement and Balance Sheet.

What is Financial Ratio Analysis?

• Compares different line items from financial statements.
• Ratios often expressed as percentages.

Types of Financial Ratios

• Five main groups:
  1. Profitability Ratios
  2. Liquidity Ratios
  3. Efficiency Ratios
  4. Leverage Ratios
  5. Price Ratios

Profitability Ratios

• Measure efficiency in generating profit from:
  • Revenue
  • Assets
  • Equity
  • Capital Employed
• Margin Ratios:
  • Profit Margin: Profit / Revenue
  • Gross Profit Margin: Gross Profit / Revenue
  • Operating Profit Margin: Operating Profit / Revenue
  • Net Profit Margin: Net Profit / Revenue
• Return Ratios:
  • Return on Assets (ROA): Net Profit / Average Total Assets
  • Return on Equity (ROE): Net Profit / Total Equity
  • Return on Capital Employed (ROCE): Operating Profit / Capital Employed

Liquidity Ratios

• Measure ability to cover short-term obligations:
  • Cash Ratio: Cash / Current Liabilities
  • Quick Ratio: Liquid Assets / Current Liabilities
  • Current Ratio: Current Assets / Current Liabilities

Efficiency Ratios

• Measure effectiveness in operations:
  • Turnover Ratios:
    • Inventory Turnover Ratio: Cost of Goods Sold / Inventory
    • Receivables Turnover Ratio: Revenue / Accounts Receivable
    • Asset Turnover Ratio: Revenue / Total Assets
    • Payables Turnover Ratio: Cost of Goods Sold / Accounts Payable
  • Cash Conversion Cycle:
    • Days Sales of Inventory: (Inventory / Cost of Goods Sold) x 365
    • Days Sales Outstanding: (Accounts Receivable / Revenue) x 365
    • Days Payable Outstanding: (Accounts Payable / Cost of Goods Sold) x 365

Leverage Ratios

• Measure debt-related risks:
  • Debt to Assets Ratio (DTA): Total Liabilities / Total Assets
  • Debt to Equity Ratio (DTE): Total Liabilities / Total Equity
  • Interest Coverage Ratio: Operating Profit / Interest Expenses
  • Debt Service Coverage Ratio: EBITDA / Total Debt Service

Price Ratios

• Used by investors for share price evaluation:
  • Earnings per Share (EPS): Net Profit / Common Shares Outstanding
  • Price-to-Earnings Ratio (P/E): Share Price / EPS
  • Price-to-Earnings-to-Growth Ratio (PEG): P/E / Expected EPS Growth
  • Dividends per Share (DPS): Dividends Paid / Common Shares Outstanding
  • Dividend Yield Ratio: DPS / Share Price
  • Dividend Payout Ratio: Dividends Paid / Net Profit

Conclusion

• Summary of Financial Ratios:
  • Profitability, Liquidity, Efficiency, Leverage, and Price Ratios.
• Financial Ratios Cheat Sheets available on James' website for further reference.