FINANCIAL MIX RATIOS

In the horizontal, trend and vertical analysis, each financial statement is considered a stand-alone report. The truth is, these
financial statements are interrelated and interlocked with one another. Example contained in the income statement are directly related
with information contained in the balance sheet and cash flows as shown in the diagram:

Income statement Balance sheet Statement of Cash flow

Net sales Cash; trade receivables Operating activities

Cost of goods sold Cash; trade payables Operating activities

Operating expenses Cash; Prepaid expenses Operating activities

Accrued expenses
Accumulated depreciation
Other items Cash; Bonds payable Operating activities, Investing
Discount/Premium on activities and Financing
bonds, non-current assets activities
Income tax Cash; Deferred income tax;
Property and equipment Operating activities, Investing,
Long-term debt; Material Financing and Operating
cash shortage; Cash activities
surrender value of life *non-cash items are excluded
insurance, etc...

Since the financial statements are fundamentally-related, the information contained in one statement could be related to the
information found in another. This is the essence of financial mix ratio analysis. In computing the financial mix ratios, the amount
used from the income statement is the net figures (i.e., net sales) while that from the balance sheet is the average amount (i.e., average
inventory, etc.)

Four classification of financial mix ratio analysis:

 Profitability ratios – ability of the business to generate profit. It measures the ability of the business to generate profit in relation
to sales, investments, assets, equities or common shares outstanding.
 Growth ratios – are indicative of the organization’s potential and attractiveness as an investment option.
 Liquidity ratios – refers to the ability of the business to pay its obligations in cash as they mature. Therefore, the focal point of
the liquidity analysis is cash. It includes the ability of the management to convert its current assets into cash in a quick, stable and
regular manner. It also deals with the ability of management to use trade credits and stretch the payments to trade credits in
financing operating activities. In short, the liquidity position of an organization is directly related to its operating activities and
determines the speed of revolving cash in the operating cycle.
 Financial Leverage ratios – refers to the use of debt to increase shareholders’ equity. Using debt to finance business activities
would mean greater exposure to the risk of insolvency. The more leveraged the business, the higher the risk of insolvency is.
Financial leverage is a measure of risk.

SUMMARY OF FINANCIAL MIX RATIOS

RATIOS FORMULAS COMMENTS

PROFITABILITY RATIOS

 Return on Sales
 Gross profit rate
 Return on total assets
 Return on
stockholders’ equity
Net income / Net sales
Gross profit / Net sales
Net income + Interest
expense (net of tax)
Average total assets
Net income
Average stockholders’ equity
 Also called as net profit rate; net profit margin;
measures profit percentage per peso sales
 Measures gross profit percentage on sales to recover
operating expenses
 Measures overall asset profitability; indicates how
well assets have been employed by management
 Measures percentage of income derived for every
peso of owners’ equity.

 Return on common Net income  Earnings available to common stockholders’ equals

stockholders’ equity Average common net income less preferred dividends; this ratio
stockholders’ equity measures percentage of profit derived for every peso
of common equity money used; when compared to
the return on total assets; it measures the percentage

 Operating leverage Contribution margin
Earnings before interest and
taxes (Operating income)
 Times preferred Net income
dividend earned Preferred dividend
requirements
LIQUIDITY RATIOS
 Operating turnover Collection period + Inventory
days
 Inventory turnover Cost of goods sold
Average Inventory
 Inventory days number of days in a year
inventory turnover
 Receivable turnover Net CREDIT sales
Average trade receivables
 Collection period Number of days in a year
Receivable turnover
 Payable turnover Net credit purchases
Average trade payables
 Payable days Number of days in a year
Payable turnover
 Materials turnover Materials USED
Average materials inventory
 Work-in-process Cost of goods
inventory turnover MANUFACTURED
Average work-in-process
inventory
 Finished goods Cost of goods SOLD
inventory turnover Average finished goods
inventory
 Cash turnover Cash operating expenses
Average cash balance
 Days to pay operating Number of days in a year
expenses Cash turnover
 Working capital Net sales
turnover Average working capital
 Asset turnover Net sales
Average total assets
 Current assets Net sales (excluding
turnover depreciation and
amortization)
Average current assets
 Net working capital Current assets – Current
liabilities
 Current ratio Current assets
Current liabilities
of profit derived for every peso of common equity
money used; when compared to the return on total
assets, it measures the extent to which financial
leverage is working for or against common
stockholders.
 Measures the number of times profit will increase or
decrease in relation to change in net sales.
 Measures the adequacy of current earnings to meet
preferred dividend payments.
 Measures the speed of the business cycle; the number
of days cash was invested in the normal business
operations until it was recovered back
 Indicates the number of times inventories were
acquired and sold during the period
 Indicates the length of time spent before the average
inventory is sold to customers.
 (note: know what will be the number of days to be
considered)
 Indicates the efficiency in credit and collection
policies; trade receivables include open account and
on notes
 Measures quickness in collecting trade receivables
 Measures effectiveness in using trade credit facility
from suppliers
 Indicates the number of days spent before paying
liabilities to merchandise suppliers
 Indicates the number of times materials were used on
the average during the period
 Indicates the number of times average work-in-
process inventories is converted to finished goods
 Indicates the number of times average finished goods
is sold during the period
 Measures the ability of the business to meet operating
expenses payments given a particular cash balance
 Indicates the number of days spent before meeting
operating expense payments
 Measures the adequacy and effective use of working
capital; indicates reasonableness of the amount of
current assets
 Measures effectiveness of assets utilization
 Indicates the reasonableness of the amount of current
assets
 Indicates the amount invested by the business to
operate its normal business activities
 Rough estimate on the ability of the business to meet
its currently maturing obligations; this ratio varies in

 Quick assets ratio
 (acid test ratio)
 Defensive interval
ratio
 Earnings per share
 Price-earnings ratio
 Dividend yield ratio
 Dividend payout ratio
 Book value per share
LEVERAGE RATIOS (Solvency ratios or Stability ratios)
 Debt-to-equity ratio
 Debt-to-assets ratio
(debt ratio)
 Equity-to-assets
ratio (equity ratio)
 Equity multiplier
 Times interest earned
 Financial leverage
 Total (combined)
leverage
 Fixed charges rate
great disparity from one industry to another
Quick assets  A more severe test of immediate liquidity to meet
Current liabilities currently maturing obligations
 Quick assets include: cash, marketable
securities and receivables
Defensive assets  Measures the number of days defensive assets are
Average daily expenditures available to meet daily cash expenses
 Defensive assets include: cash, marketable
securities and trade receivable
GROWTH RATIOS
(Net income – Preferred  Perhaps the most frequently quoted ratio of earnings
dividends) and growth performance; measures the value of
Average common shares common stock by attributing to it a portion of the
outstanding company’s earnings
Market price per share  Measures the number of period investment in stock
Earnings per share will be recovered; measures the profitability of the
firm in relation to the market value of the stock;
measures investors’ beliefs on the growth potential of
the stock
Dividend per share  Measures rate of cash return to investment in stock
Market price per share
Dividend per share  Represents the percentage of net income distributed
Earnings per share as dividends; a low ratio may indicate the
reinvestment of profits by a growth-oriented firm
Stockholders’ equity  Indicates the value of the stock on cost perspective;
Average shares outstanding the relevance of this ratio diminishes when the
balance sheet valuation does not approach fair market
values; may be computed for both common and
preferred stocks
Total debt  Measures the use of debt to finance operations;
Net stockholders’ equity provides a measure of the relative amount of
resources contributed by the creditors and owners
Total debt  Measures the relative shares of creditors over the
Total assets total resources of the firm
Net stockholders’ equity  Measures the amount of resources provided by the
Total assets owners in the firm
Total assets (equity)  Indicates the number of times owners’ equity is
Net stockholders’ equity multiplied
Or
1/ equity ratio
Earnings before Interest and  Measures the long-term debt paying ability of the
Taxes (EBIT) firm; a high number of times interest is earned ratio
Interest expense indicates that the business is under-leveraged and its
return on common equity could still be improved.
Earnings before interest and  Measures the risk associated in using debt to finance
taxes (EBIT) investments
(EBIT – Interest expense –
Preferred dividends before
tax
Degree of operating leverage  Measures the overall leverage of the business; it
x Degree of financial leverage indicates the variability of the stockholders’ equity
with respect to changes in contribution margin,
earnings before interest and taxes, interest expense
and preferred dividends before tax
Cash flows before fixed  Measures the ability to meet fixed charges by cash
 charges  Examples of fixed charges: rent, insurance,
Total fixed charges taxes and depreciation
 Total assets-to-total Total assets  Rough estimate of the firm’s ability to meet interest
liabilities ratio Total liabilities payments to creditors
 Non-current assets- Non-current assets  Shows the capability to meet non-current liabilities
to- long-term Long-term liabilities using non-current resources
liabilities ratio

CASH FLOW RATIOS

RATIOS FORMULAS
 Cash flow adequacy Cash from operations + Long-term debt
paid + Purchases of assets
 Long-term debt payment Long-term debt payments
Cash from operations
 Dividend payout on cash from operations Dividends
Cash from operations
 Reinvestment Purchase of assets
Cash from operations
 Total debt coverage Total liabilities
Cash from operations
 Depreciation-amortization impact Depreciation + Amortization
Cash from operations
 Cash flow to sales Cash from operations
Sales
 Cash flow to net income Cash from operations
Income from ordinary operations
 Cash flow return on sales Cash from operations
Total assets
 Cash flow liquidity ratio Cash + Marketable securities + Cash flow
from operating Activities
Current liabilities

OTHER RATIOS

OPERATING CYCLE Average collection period of receivable + Average

(liquidity & management efficiency) conversion period of Inventories + Days Cash
CAPITAL INTENSITY RATIO Total Assets
(liquidity & management efficiency) Net sales
SALES TO FIXED ASSETS (PLANT ASSET Net sales
TURNOVER) Average Fixed Assets (net)
(liquidity & management efficiency)
Net income
Average Owners’ equity
RATE OF RETURN ON OWNERS’ EQUITY Or
(solvency) Return on Assets x Equity multiplier

DIVIDENDS PER SHARE Dividends paid/declared

(stability) Common shares outstanding

RATE OF RETURN ON AVERAGE Net Income

CURRENT ASSETS Average Current Assets
(stability)
DAYS CASH Average cash balance
(liquidity and management efficiency) Cash operating costs
Number of days in a year
PERCENT OF EACH CURRENT ASSETS TO Amount of each current assets
TOTAL CURRENT ASSETS Total current assets

One of the most popular representation of cash from operations is the EBITDA or EARNINGS BEFORE INTEREST, TAX,
DEPRECIATION AND AMORTIZATION.

FINANCIAL GEARING RATIOS – measure the financial risk of a company’s financial structure. Business risk can be calculated
by calculating a company’s operational gearing.

TWO GEARING RATIOS:

 Financial gearing ratio
 Ways to compute financial gearing ratio:
1) FGR = Prior Capital Charged / Equity Capital
2) FGR = Prior Capital Charged / Total capital employed

*Prior capital charged – capital employed in the business which has the right to receive interest and preference dividends before any
distribution is made to ordinary (common) shareholders (e.g. preference shares, interest-bearing long-term capital, and interest-bearing
short-term debt capital). In an alternative calculation of prior capital charged, the interest-bearing short-term debt capital may be
excluded.

*Equity capital – refers to the interest of the ordinary shareholders include that of the share capital, share premium and retained
earnings

*Total capital employed – sum of the non-current assets and net working capital.

 Operating gearing ratio – same as operating leverage (Contribution Margin / Operating Income or EBIT)

SAMPLE EXERCISES:

1) LIQUIDITY RATIOS: Following are selected financial data from the records of ROBBIE Corporation and RINGO Corporation
as of the year ended 12/31/2020:
Robbie Corp. Ringo Corp.
Net credit sales P 60 million P 120 million
Cost of goods sold 20 million 45 million
Net credit purchases 20 million 43 million
Average trade receivables 4 million 4 million
Average inventories 2 million 2 million
Average trade payables 3.5 million 3.5 million
Sales credit terms 2/10, n/30 2/10, n/30
Purchase credit terms 3/30, n/60 3/30, n/60
Determine the following for ROBBIE and RINGO Corporation for 2020:

Ratios Robbie Ringo

 Inventory turnover

 Receivable turnover

 Collection period (use 360 days)

 Payable turnover

 Payment period (use 360 days)

 Days sales to inventory (use 360

days)

 Operating cycle

 Net cash cycle

2) GROWTH RATIOS: FRANK Corporation provided the following financial data of ASTRUD Corporation on December 31,
2020:
Earnings per share P 25 Market price per share P 125
Dividend per common share 10 Net stockholders’ equity 4,200,000
12% Preferred stock, P 60 par, 200,000 shares issued and 1,200,000 Preferred dividend on arrears 288,000
outstanding, liquidation value P 90
Common shares outstanding 80,000
shares

Determine the following:

A. Price-earnings ratio

B. Dividend yield ratio

C. Payout ratio

D. Book value per preferred share and common share

Book value Shares outstanding Book value per share
Total stockholders’ equity
(-) Preferred stockholders’ equity:
Liquidation value
Dividends in arrears
Total preferred equity
Common stockholders equity

3) FINANCIAL GEARING RATIOS: The following data were extracted from the records of VERA COUTURE as the end of
2020 (in thousands):
Fixed assets P 20,000
Current assets P 12,000
Creditors amounts falling due within a year:
Trade creditors P (4,000)
Bank overdraft (500)
Bills of exchange (1,200)
Loans (4,300) 2,000
Total assets less current liabilities P 22,000
Creditors amounts falling due after a year:
Debentures P (12,000)
Bank loans (4,000) (16,000)
Provisions for liabilities P (800)
Deferred income (200) (1,000)
Shareholders’ equity P 5,000

Preference shares P 1,200 Revaluation surplus P 400

Ordinary shares 2,500 Retained earnings 500
Share premium 400

Compute for the following:

1) PRIOR CAPITAL CHARGED Benchmark (without short-term debt) Alternative (with short-term debt)
 Preference shares
 Debentures
 Long-term bank loans
 Short-term bank loans
 Bank overdraft
Total prior capital charged

2) EQUITY CAPITAL
Ordinary shares
Debentures
Revaluation surplus
 Retained earnings
Total

3) FINANCIAL GEARING RATIO:

 Prior capital charged / Equity capital
 Prior capital charged
Total capital employed