3-Minute Overview: Financial Ratio Analysis Explained
Download FREE cheat-sheet PDF at the bottom of all videos below
Current Ratio
Current Ratio: (Current Assets)/(Current Liabilities)
- Tells us how much of your company’s stuff can be easily changed into cash within the next 12 months so that it can pay debts which need to be paid also within 12 months.
- A higher ratio (significantly above 1) indicates that the company is “less risky” for creditors, but could also indicate that the company is not efficient at using current assets for more profit.
Quick Ratio or Acid Test Ratio
Quick or Acid Test Ratio: (Quick Assets)/( Current Liabilities)
- Tells us how much assets can be easily and quickly converted to cash to pay for liabilities within the next 12 months.
- Similar to current ratio, a higher number indicates that the company is “less risky” for creditors, but could also indicate that the company is not efficient at using short term assets for profit.
Cash Ratio
Cash Ratio: (Cash/Current Liabilities)
- Similar to the current ratio and even more stringent than the Quick Ratio, as we only compare cash with current liabilities instead of all current assets to current liabilities. Why? Because you cannot easily use all of your current assets to pay your debts.
ROA Ratio Return on Assets
ROA or Return on Assets: (Net Income)/(Total Assets)
- Higher ROA indicates that the company is more efficient in using assets to generate profit; a lower ROA indicates that the company is less efficient in using assets to generate profit.
ROE Ratio Return on Equity
ROE or Return on Equity: (Net Income)/(Total Equity)
- A higher ROE indicates that the company is more efficient in giving more profit to the company’s owners compared to these owners’ personal investment in the company.
Profit Margin Ratio
Profit Margin Ratio: (Net Income)/(Sales)
- Tells us how much profit your company earns compared to your company’s sales. Normally, a higher number is better; because you want to earn more profit for every $1 of sales that you get.
EPS Earnings Per Share
EPS or Earnings Per Share: (Net Income)/(# Shares Outstanding)
- Tells us how much proportion of income the holder of one share of stock is entitled to. VERY UNRELIABLE ratio because even companies of same size or profitability may have different number of outstanding shares.
P/E Ratio or Price Earnings Ratio
P/E or Price Earnings Ratio: (Share’s Market Price)/(Earnings Per Share)
- A low Price Earnings Ratio can be good because it means the market price is low compared to how much profit the company is making; but can also be bad because “why is it selling cheap?” Maybe they’re expecting bad news in the future.
7 Turnover Ratios – Premium Video (Free Preview)
5 Financial Leverage Ratios – Premium Video (Free Preview)
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Overview:
- It’s not enough to simply say a company is in “good or bad” health…
- We put numbers on this “health,” so that we can compare these “health numbers” with the numbers of other companies…
- One form of “health numbers” are “ratios” which is basically different numbers combined into just one number to make it “simpler.”
- For example, if a company has current assets of $1,000 (one number) and current liabilities of $800 (another number), these two numbers can be combined $1,000/$800 into just one number of 1.25 (1000/800=1.25) which in this example is the “current ratio.”
- Of course, because of this “1-number simplicity,” it doesn’t tell the ‘whole story’ and they are not completely reliable. There are many flaws and many different ways of understanding individual financial ratios, which I cover deeply in the FREE videos above. (I suggest you watch them.)
- Liquidity Ratios can tell us how easily a company can pay its debts… so that the company doesn’t get eaten up by banks or other creditors. An example is the Current Ratio (as above).
- Profitability Ratios can tell us how good a company is at making money. An example of this is the Profit Margin Ratio.
- Leverage ratios tell us how much debt the company is using to make the company run and stay alive. An example of this is the simple Debt Ratio.
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61 Comments
sally
21 September 2011thank u 😀
Anupam Kumari
20 November 2011Thank you so much for the beautiful explanation.
dilnawaz
22 December 2011i wish i would learn all my mba subjests from u more deeply u r so much sencere to ur viewers man hands off to u SIR
David
24 December 2011I wish I could provide more but it actually takes a while to make new ones, even if it looks simple (or rather, especially because it’s very hard to think of how to make it look simple). Good luck to you dilnawaz!
sujatha
10 February 2012thank you so much 4 nice explanaion.
Tahir Bashir
27 May 2012Man simply Ur are great help to us 🙂 perfectly explained Thank you a lot.
David
5 June 2012Great to hear that, Tahir!
Joseph Abraham
8 August 2012Hi Dave,
I like your videos, but for a certain reason I was not able to top up my Pay pal
i tried using help but of no avail, I cant even direct charge to my credit cards
Regards
Joe
David
11 August 2012Hey Joe, unfortunately that’s a Paypal issue, and you’ll have to try fix it with them. I completely understand the difficulty working with a large (although highly reputed) company with millions of clients. Your account may have been flagged for one reason or another.
Ashutosh
10 November 2012Good good
Paul
13 December 2012Thank you! Best explanations ever!
David
15 December 2012Thanks Paul!
Hannah
24 February 2013Thx very much! Great videos.
David
25 February 2013Welcome Hannah,hope all is great with you!
olubunmi oladele-ajose
4 April 2013Thank you.
David
8 April 2013Welcome, @Olubunmi!
olubunmi oladele-ajose
4 April 2013This is awesome
Thanks
David
5 April 2013Welcome @Olubunmi !
dawood
20 May 2013thanks alot
David
24 May 2013@dawood You’re welcome a lot too!
mohan
3 August 2013you’re videos are simple and great. It help persons like me who are don’t know what is finance in their lifetime. thank you sir
David
8 August 2013@mohan welcome and I hope it helps you in your lifetime
Ali
9 August 2013Its amazing videos Its too simple. I wish you for your happy life. Very great effort.
David
13 August 2013@Ali I do have a happy life indeed, thanks for your wishes
Banzi
12 October 2013I passed my MBA fin exams with flying colors thanx David
David
16 October 2013@Banzi WOW!!! So glad to hear that. Best of luck in your career!
Micky
23 October 2013I thank you for this videos, wish i have seen them at the beginning of the semester. luckily it will help me in my preparation for the exam.
David
28 October 2013@Micky it’s not too late, man; good luck in your exam!
Miltina
17 November 2013Thanks David for these videos it has helped me so much and am so lucky i have viewed them before my exams which is two weeks away. It is up now up to me apply what I’ve learnt.
Once again thanks!
David
18 November 2013@Miltina best of luck in your exam, let us know how it goes!
kehkashan
1 December 2013hi
these video are very helpful for me but i cant understand of pbp and irr its very difficult
but thank you very much for sharing
kind regards
David
12 December 2013@kehkashan have you checked out our IRR videos?
https://mbabullshit.com/blog/2011/08/06/irr-internal-rate-of-return-explained/
Harsha
5 March 2014Thanks Mr.David.
your videos are very helpful to understand the concepts easily. Simply superb:-)
David
5 March 2014@Harsha: Glad you find it “superb” !!
carmela marie descaller
20 October 2014nice explanation.. thank you sir….
David
21 October 2014@carmela you’re welcome!
Maria
27 October 2014Its really a big help! Thanks much sir.
This might not be the whole explanation of each every topic but this means a lot for us to easily understand the finance subj!
David
30 October 2014@Maria you’re very welcome
@nkit
1 March 2015Hi David, I spent an year in bschool and didnt get anything in fin. nd u made me understand in few mintutes. wish u were there in my mba.
David
7 March 2015@nkit glad you found us! Wish you the best in your career!
SIMON OSEI
16 July 2015ooooooooo I REALLY LOVE IT AND IN FACT ITS VERY SIMPLE AND EASY TO UNDERSTAND
David
20 July 2015@Simon glad you find it simple!
TamaraA
11 October 2015Thank you.
My nightmare subject. Studying via distance and your videos are great.
I think I get this now. It’s a foreign language to me thanks for translating.
Will share on our forums.
David
11 October 2015@TamaraA glad to have helped you with your nightmare! Thanks for sharing on your forums..
abrar
6 January 2016u r the boss! super cool ! can u give the path to be a boss like u.thanks
David
20 January 2016@abrar thank you too, boss!
Shehzad Parvi
23 February 2016hey dude you are beyond awesome
David
28 February 2016@Shehzad hey dude thanks!
Anubind Tiwari
14 September 2016you are just great, this helped me a lot during my MBA, and now I use it as a refresher.
David
23 September 2016@anubind great to hear that!
Raju
12 January 2017I am persuing CMA Final and I watched you free demo vedio….Excellent sir i don’t have word to how to say thanks…I don’t have money right now to buy this e-book but I will defiownitely buy in future by whatever price….excellent Sir…good job..
Thanks
Raju Jha
David
12 January 2017@Raju: While we do have ebooks for sale, the “Cheat Sheet” ebook on this page is FREE, just look for the link above and you can download it. Cheers.
mohamed hussein
18 January 2017realy its very good explanation…
David
18 January 2017@mohamed glad you like the explanation!
SIMON OSEI
24 January 2017Honestly this site has made my students feel happy and they love me most
David
31 March 2017@Simon glad to have helped make your students happy!
Anass Khaled
7 February 2017i do not find fit words to appreciate you but at least thanks so much
David
31 March 2017@Anass thanks too!
Brian
20 March 2017Just wanted to say that your website has been a huge help in my studies. I’m currently a BBA student with a concentration in finance.Your content has cleared up many topics for me that were not appropriately explained by my coursework. Thanks so much.
David
31 March 2017@Brian so happy to have been of help!
Teboho Mokati
8 November 2017Thanks a million. I am speechless!!! I am a final year student in MBA. Why did I only know about this when I am writing exams in two days??? Don’t worry, I have kicked myself.
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