Vital Signs: 7 Savvy Ways to Gauge Your Company's Health
Maybe you can recite the following financials for your company, and maybe you can't. But bankers, investors, and buyers want to know them, because they're the best indicators of your company's health.
1. Current Ratio. It's a basic measure of solvency. Lenders generally want to see a 2:1 ratio.
How to calculate: Compare current assets (cash, receivables, and inventory) with current liabilities.
2. Quick ratio. It's the current ratio with inventory removed. The quick ratio tells you if you have enough readily available funds to cover short-term obligations. It should be at least 1:1.
How to calculate: Compare cash plus receivables with current liabilities.
3. Return on assets. This ratio lets you know if you're using your assets efficiently. It's industry specific, but the higher, the better.
How to calculate: Compare net profits before taxes with total assets.
4. Accounts Receivable Turnover Ratio. This ratio tells you how quickly your company is collecting on receivables. It's also industry specific, but it should be as low as possible. If it jumps up, you've got a liquidity issue.
How to calculate: Compare average receivables with annual sales.
5. Operating Cash-Flow Ratio. It tells you the volume of cash you are generating compared with the amount you will have to lay out.
How to calculate: Compare cash flow from operations with current liabilities.
6. Pretax Net Profit Margin. It helps lenders (and you) benchmark your profitability against others' without the sometimes uncertain variable of taxes.
How to calculate: Divide net pretax income by sales.
7. Inventory Turnover. You can think of inventory as frozen cash, so you would like it to thaw as many times as possible. The ideal rate varies by industry, but if you see any decrease in your turnover, you need to find out the reason, pronto.
How to calculate: Track how many times your company sells its inventory in one year.