LSEC307




Financial Ratios





Done by:
Jubara Al Marar ID:H00157527
Suhail Al Rashdi ID:H00131115
Section: CL2
Teacher: Gregory Vrhovnik
08-01-2012
Contents

Ratios Analysis……………………………………………………………………….…….3
Profitability Ratios…………………………………………………………………….……3
Debt Utilization Ratio………………………………………………………………….…...4
Conclusion………………………………………………………………………………….5
Bibliography.……………………………………………………………………………….6










Financial Ratios Analysis

It is critical to any firm to use financial ratios to weigh and evaluate its operating performance and to show how strong their firm is according to other firms in the same industry. In our report we will describe two of the four main ratios firms usually use to assess their performance in accordance with other firms, or the firm industries average. In this report we will take the Profitability Ratio, Debt Utilization ratios, explain their sub categories and what each of these ratios used for. The profitability ratio measures the standing of the firm according to its profits. The debt utilization measures where the firm stands in accordance of the use of its debts and how they are used to the advantage of the firm.
Profitability Ratios
First, we will talk about the profitability ratio; it’s the ratio that shows how profitable the firm is. There are three different classifications to the profitability ratios. The profitability ratios, it measures the returns on sales, total assets, and the invested capital. The return on sales is known as the profit margin, which is defined as net income on sales made during a certain period of time. The profit margin is one of the most straight forward ratios out there; the info for this ratio is available in the financial statements. Two, the return on assets, this ratio is a measure of how efficient is the use of the assets, and how much these assets generate in profits for the firm. Companies such as telecommunication providers, car manufacturers, and railroads are very asset-intensive, meaning they require big, expensive machinery or equipment to generate a profit. Three, the return on equity, is the amount of the net income returned as a percentage of shareholders equity. Return on equity measures a firm's profitability by revealing how much profit a company generates with the money shareholders have invested, this analysis is important to shareholders and people who invest in the firm. It measured by dividing the net income with the shareholder equity. This is useful when you want to know how much profit you made for your investors. In general these ratios show how well the management is generating profits with respect to assets, sales and of what they owe investors and stockholders in a certain firm. It is also well to mention that these profitability ratios are a quantitative measure that shows your competitiveness in regards to profit with other industries in the same field, so you know your company is doing well, if the percentage you’re getting is the same or higher than the industry you’re operating in. To conclude this part of this essay, profitability ratios, are critical to the firm, in order to analyze and fix problems in case your firm is not matching the industry average, you could figure out the problem and fix it when you compare your ratios to the industries.
Debt Utilization Ratio
Next point is the debt utilization ratio, it’s the overall debt position of the firm is evaluated in light of its asset base and earning power. Under this ratio there are three sub-ratios. The first one is debt to total assets ratio which measures a company's financial risk by determining how much of the company's assets have been financed by debt. You calculated by adding short-term and long-term debt then dividing by the company's total assets. You may see a well financed company and think this one is doing a great job, but actually most of its financing is debt. This act will make investors hesitate to move toward it and invest, because it stands on an edge that may fall in a financial crises if any debt sides decide they want their money immediately. Second, Times interest earned ratio, it indicates the number of times that income before interest and tax covers the interest obligation (Times Interest Earned Ratio, 2012). The higher number the stronger the Interest paying ability of the firm. So if your company has higher number than the industry’s number this means you manage your banking debts well in regards to your profits. That is why times interest earned ratio is of special importance to creditors. They can compare the debt repayment ability of similar companies using this ratio. Other things equal, a creditor should lend to a company with high times interest earned ratio. It also beneficial to create a trend of values of times interest earned. Third ratio is the fixed charge coverage. It measures the firm’s ability to meet all fixed obligations. The fixed charge coverage ratio such as rent and insurance, it includes lease payments as well as interest payments. Lease payments, like interest payments, must be met on an annual basis. The fixed charge coverage ratio is especially important for firms that extensively lease equipment (Fixed Charge Coverage Ratio, 2012). It is really important to cover fixed obligations first because failure to meet them will endanger the position of the firm. The analyst uses these ratios to measure debt policies of the firm.
Conclusion
There is a lot to be said for valuing a company, it is no easy task. Ratios on their own don’t really tell us a whole lot alone, but when we compare them against previous year’s numbers, other companies, industry averages, or the economy in general it can reveal a lot and make sense. In conclusion, there are lots of uses of financial ratios; some use it to detect strengths and weaknesses within a firm business or make a comparison with other firms in the same business. Companies may use different ratios in their comparisons that they feel it will explain and show good results of their performance. Financial ratios like profitability and debt utilization of a specific business are best inter­preted as a group, rather than making judgments on individual ratios. I think Debt utilization ratio is the best ratio that could evaluate the condition of an organization because it shows the debt and assets of an organization and divide it together to show its rank.











Bibliography
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Langemeier, M. R. (2004, October 1). Financial Ratios Used in Financial Management.
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Ratio Analysis. (n.d.). Investopedia – The Web’s Largest Investing Resource. Retrieved
January 8, 2012, from
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Return on Assets (ROA). (n.d.). Investing for Beginners. Retrieved January 8, 2012, from
http://beginnersinvest.about.com/od/incomestatementanalysis/a/return-on-assets-roa-income-statement.htm

Times Interest Earned Ratio Formula Example Analysis. (n.d.). Accounting Explained
Financial and Managerial Accounting Notes. Retrieved January 8, 2012, from http://accountingexplained.com/financial/ratios/times-interest-earned