Need Help Interpreting Financial Statements?
First Published on smallville.com.au
EFFICIENCY RATIOS
1. Debtor Days
This is an analysis that shows how quickly customers are paying their accounts, or in other words, how many days you are providing credit to your customers.
It is determined by taking the closing Debtor (or Accounts Receivable) balance at the end of the period and dividing it by the average Sales per day (Sales / number of days in period). This is a useful check against previous periods and the smaller the number the better your cash flow is going to be.
2. Inventory Days
This ratio is to provide the owner with a gauge as to how long they are holding inventory for. Depending on the information you have access to, it is best broken down into different inventory categories, to better guide you how you can improve ordering efficiencies and whether discounting may need to be applied.
It is calculated by taking the Cost of Sales for the period divided by the Average Inventory (average of both the Opening & Closing). The smaller the number the more frequent your inventory turns over.
OPERATIONS CHECK
1. Creditor Days
This ratio is somewhat similar to the abovementioned Debtors Days, however it calculates how efficiently you, as the customer, are utilising the credit terms offered to you by your suppliers.
It is calculated by taking the closing Creditors (or Accounts Payable) figure at the end of the period and dividing it by the average Cost of Sales per day (i.e Cost of Sales divided by the number of days in the period of review).
2. Working Capital Ratio
This ratio helps the manager understand the businesses liquidity or how well it can function moving forward. It is calculated by taking the total of the Current Assets and dividing it by the total of the Current Liabilities. Ideally, you want the number to be greater than 1, which means you have enough liquid assets to cover your immediate debts.
3. Short Term Debt Ratio
The Short Term Debt Ratio is calculated by taking the Profit and adding back Depreciation then dividing this by the Current Liabilities. The ratio shows the business’ ability to fund its short-term debts without having to sell down any current assets. Current Assets usually include Cash, Receivables, Inventory and Deposits and possibly any short-term investments or loans.
PROFITABILITY RATIO
1. Gross Profit Ratio
The Gross Profit is a good first check to see where any profitability problems lie. The calculation is Sales – Cost of Sales then compared back to the Sales to provide a percentage. Ideally, you want this percentage to stay steady or increase over time. It is a quick way to see if your prices are too low or if your purchases are costing too much. As a guide retail industries generally see ratios of 50%, restaurants generally 80% and professional services are around 65%.
2. Net Profit Ratio
Ah, my favourite ratio of all, when this is up, the happier all business owners become… It is calculated by taking the Net Profit and comparing it back against the Sales to provide a percentage.
Now you can apply some of these key ratios to your business and may everyone’s Net Profit Ratio increase each and every period.
It looks like you're diving into some key financial metrics! The Debtor Days ratio is indeed an important indicator for managing cash flow, helping businesses understand how efficiently they're collecting payments from customers. The quicker the collection, the better the cash flow.
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Great explanation on Debtor Days! It's a crucial metric for evaluating how well a company manages its receivables and cash flow. The quicker customers pay, the better it is for maintaining healthy liquidity and reducing risk.
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Thanks for sharing the information about debtor days! It’s a key metric to assess how well a business is managing its receivables and credit policies. The quicker customers pay, the better a company’s cash flow, which can help in operational efficiency.
If you're discussing technical solutions in your blog, I bet it adds great value for those interested in business analytics too! I’ll be sure to check it out. Keep up the great work!
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Debtor Days is a key efficiency ratio that helps you understand how effectively your business is managing accounts receivable. The quicker customers pay, the better your cash flow. A smaller number of Debtor Days indicates that your customers are settling invoices faster, improving liquidity and reducing the risk of bad debts.
To calculate it:
Debtor Days = (Debtor balance at the end of the period) / (Average daily sales)
This ratio is useful when comparing your current period with previous periods to assess the efficiency of your credit policies.
I’ll be sure to check out your blog post! Sounds like you’re diving deep into some useful content!
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That’s a great explanation of debtor days! It’s crucial to monitor how quickly customers are paying to manage cash flow effectively. A lower debtor days figure generally means better cash flow since payments are coming in quicker. It can also signal that your credit policies are in good shape or that customers are satisfied with your product/service and eager to pay.
I'm curious about your latest blog post on this! If it covers more such insightful topics or offers more ways to optimize cash flow or efficiency ratios, I’d love to take a look!
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