Apr 14, 2016
- Complete the sentences below. Use the key words if necessary.
- Types of financial ratio
key words
Financial express the relationships between two or more items on financial statements. They allow investors and creditors to compare a company’s present situation and performance with its past performance, and with other companies. Ratios measure: — how easily a company can turn some of its assets into cash; — whether a company has enough cash to pay short-term debts, or whether it could go bankrupt — have its assets sold to repay creditors; — how well a company uses its resources.
Liquidity and solvency ratios
key words
is a calculation of . It measures liquidity and shows how much of a company’s assets will have to be converted into cash in the next year to pay debts. The higher the ratio, the more chance creditors have of being paid. For example, if MacKenzie Inc has current assets of $23,244,000 and current liabilities of $15,197,000, its current ratio is 1.53, which is acceptable. It is often argued that the current ratio of a healthy company should be closer to 2.0 than 1.0, meaning that it has nearly twice as many assets as liabilities.
Suppliers granting short-term credit to a company prefer the current ratio to be high because this reduces their risk. Yet shareholders usually prefer it to be low, because this means that the company has invested its assets for the future.
This is the or acid test, which is a calculation of . It measures short-term solvency. Liquid assets are current assets minus stocks or inventory, as these might be difficult to sell. MacKenzie Inc’s quick ratio is 1.15.
Earnings and dividends
key words
Shareholders are interested in ratios relating to a company’s share price, earnings, and dividend payments.
(EPS) is a calculation of . It tells investors how much of the company’s profit belongs to each share. If a company makes a post-tax profit of $1.5 million, and it has issued 2 million shares, EPS = $0.75.
The or P/R ration is a calculation of . It shows how expensive the share is. If a company has EPS of $0.75 and the share is selling for $9.00, the P/E ration is 12($9 per share divided by $0.75 earnings per share = 12 P/E). A high P/E ratio shows that investors are prepared to pay a high multiple of the earnings for a share, because they expect it to do well in the future.
or times dividend covered is a calculation of , which shows how many times the company’s total annual dividends could have been paid out of its available annual earnings. If a company has EPS of 75 cents and it pays out a dividend of 30 cents, the dividend cover is 75/30=2.5. A high dividend cover shows that the company has a lot of money, but that it is not being very generous to its shareholders. A ratio of 2.0 or higher is generally considered safe (it means that the company can easily afford the dividend), but anything below 1.5 is risky. A low dividend cover — below 1.0 — means the company is paying out retained surpluses from previous years.
- Types of financial ratio
- Choose the words with the following meanings.
- The ability to sell an asset for cash — . . .
- liquidity
- efficiency
- ratio
- solvency
- How well a business uses its assets — . . .
- solvency
- liquidity
- efficiency
- ratio
- The relationship between two figures — . . .
- liquidity
- solvency
- ratio
- efficiency
- How easily a business can pay bills or debts when they are due — . . .
- liquidity
- efficiency
- solvency
- ratio
- The ability to sell an asset for cash — . . .
- Use the word combinations to complete the sentences below.
- . . . consist of cash and things that can be easily sold and converted to cash.
- Quick ratio
- Liquid assets
- Dividend cover
- Current ratio
- A high . . . shows that the company is retaining a lot of money belonging to its shareholders.
- dividend cover
- current ratio
- quick ratio
- liquid assets
- The . . . doesn’t count stock or inventory because this might be difficult or impossible to turn into cash.
- quick ratio
- dividend cover
- current ratio
- liquid assets
- The . . . shows a company’s ability to pay its short-term debts.
- liquid assets
- current ratio
- quick ratio
- dividend cover
- . . . consist of cash and things that can be easily sold and converted to cash.
- Match the two parts of the sentences.
- If a company pays out retained surpluses from past years . . .
- its dividend cover will fall below 1.0.
- it does not measure how efficiently the company is utilizing its resources.
- makes the market very expensive, as the long-term average is 14.45.
- will dilute the company’s earnings per share.
- Some investors are worried that the new stock issue . . .
- makes the market very expensive, as the long-term average is 14.45.
- its dividend cover will fall below 1.0.
- it does not measure how efficiently the company is utilizing its resources.
- will dilute the company’s earnings per share.
- A high current ratio indicates short-term financial strength but . . .
- makes the market very expensive, as the long-term average is 14.45.
- will dilute the company’s earnings per share.
- it does not measure how efficiently the company is utilizing its resources.
- its dividend cover will fall below 1.0.
- Wall Street is on a historic price-earnings ratio of around 35, which . . .
- makes the market very expensive, as the long-term average is 14.45.
- will dilute the company’s earnings per share.
- its dividend cover will fall below 1.0.
- it does not measure how efficiently the company is utilizing its resources.
- If a company pays out retained surpluses from past years . . .
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