Understanding the Ratio Analysis Report

Article # 1126
Technical Note: Understanding the Ratio Analysis Report
Difficulty Level: Beginner Level AccountMate User
Version(s) Affected: AccountMate 7 for SQL, Express and LAN
AccountMate 6.5 for SQL, MSDE and LAN
Module(s) Affected: General Ledger
Posting Date: 10/21/2009
DESCRIPTION
The Ratio Analysis Report function in the General Ledger module generates a
report that helps you compare the company’s financial status and performance; not
only with your company’s own goals, but also with your competitor’s goals and the
industry standards. It also provides information necessary to help you make
intelligent business decisions.
This Technical Note discusses the prerequisites for using the Ratio Analysis
Report, shows the formula for calculating each ratio, and identifies which ratio is
preferable - a higher or lower one. This document is also provided to explain the
significance of the ratio group in the GL Account ID record and to identify which
ratios are not applicable in a company that uses fund accounting.
SOLUTION
A. Prerequisites to using the Ratio Analysis Report
If you would like to use the Ratio Analysis Report, you must first activate the
Ratio Analysis feature by performing these steps:
1. Access the GL Module Setup function from the Housekeeping menu.
2. In the General (1) Tab, mark the Use Ratio Analysis checkbox.
3. Click the OK button to close the GL Module Setup window.
4. Access the Chart of Accounts Maintenance function; then, verify in the
Information tab that an appropriate ratio group is assigned to each
applicable GL Account ID record.

B. Ratio Formula and Preferred Ratio Level
When you have activated the Ratio Analysis feature, you can access the Ratio

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Analysis Report and select in the report interface an option to generate the
ratio you need. The table below illustrates for each ratio the calculation formula
and the preferred ratio level that is either higher or lower than your company’s
goals, your competitors’ performance or industry standards:



Preferred
Ratio
Formula
Ratio


Level
Accounts Receivable Ratios




Average Age of
Average Accounts Receivable
Lower
Receivables
Credit Sales

Note: Below is the computation for the

Average Account Receivables:

Beginning A/R balance $ xxx.xx
Add: Ending A/R balance xxx.xx

-----------

Total xxx.xx

Divided by 2

-----------

Average Accounts Receivable $ xxx.xx

======



Accounts
Credit Sales
Higher
Receivable
Average Accounts Receivable

Turnover






Days of Sales
Accounts Receivable
Lower
in Accounts
Credit Sales

Receivable





Inventory Ratios




Average Days to
Average Inventory
Lower
Turnover
Cost of Goods Sold

Note: Below is the computation for the

Average Inventory amount:

Beginning Inventory balance $ xxx.xx
Add: Ending Inventory balance xxx.xx

---------

Total xxx.xx
Divided by 2

---------

Average Inventory $ xxx.xx

=====

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Days of Sales
Ending Inventory
Lower
in Inventory
Cost of Goods Sold

Inventory
Cost of Goods Sold
Higher
Turnover
Average Inventory



Profitability Ratios

Asset
Net Sales
Higher
Turnover
Average Total Assets

Note: Below is the computation for the

Average Total Assets:

Beginning Total Assets amount $ xxx.xx
Add: Ending Total Assets amount xxx.xx

---------

Total xxx.xx
Divided by 2

---------

Average Total Assets $ xxx.xx

=====



Gross Profit
Gross Profit
Higher
Ratio
Net Sales





Profit Margin
Net Income
Higher
Net
Sales

Return on
Total
Net Income + Int. Expense (Net of Tax)
Higher
Assets
Average Total Assets




Return on
Net Income
Higher
Stockholder’s
Average Stockholder’s Equity
Equity

Note: Below is the computation for the
Average Stockholder’s Equity:

Beginning Stockholder’s Equity $ xxx.xx
Add: Ending Stockholder’s Equity xxx.xx

---------

Total xxx.xx

Divided by 2


---------

Average Stockholder’s Equity $ xxx.xx

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=====

Liquidity Ratios




Acid-Test
Quick Assets
Higher
Current Liabilities

Note: Below is the computation for the
Quick Assets:

Cash $ xxx.xx
Add: Marketable Securities xxx.xx
Receivables (Net) xxx.xx
---------
Total Quick Assets $ xxx.xx
=====



Current Ratio
Current Assets
Higher
Current Liabilities


Stability Ratios




Debt Ratio
Total Liabilities
Lower
Total Assets



Debt-to-Equity
Total Liabilities – Stockholder Loans
Lower
Ratio
Stockholder Equity + Stockholder Loans



Equity Ratio
Stockholder Equity + Stockholder Loans
Higher
Total Assets



Return on
Net Income+Int. Exp. on Long-Term Debt
Higher
Long-Term
Ave. Total Assets – Ave. Current Liabilities
Capital


Note: Below is the computation for the

Average Current Liabilities:



Beginning Current Liabilities $ xxx.xx

Add: Ending Current Liabilities xxx.xx
---------
Total xxx.xx
Divided by 2
---------
Average Current Liabilities $ xxx.xx
=====



Times Interest
Pre-tax Operating Income
Higher
Earned
Interest Expense

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Note: Below is the computation for the Pre-
tax Operating Income:

Net Income $ xxx.xx
Add: Interest Expense xxx.xx
Taxes xxx.xx
---------
Pre-tax Operating Income $ xxx.xx
=====


Stockholder Valuation Ratios




Book Value
Common Stockholder’s Equity
Higher
per Common
Outstanding Common Shares
Share





Earnings per
Net Income – Preferred Dividends
Higher
Share
Average Common Shares Outstanding

Note: Below is the computation for the
Average Common Shares Outstanding:

Beg. Common Shares Outstanding $xxx.xx
Add: Ending Common Shares
Outstanding xxx.xx
---------
Total xxx.xx
Divided by 2
---------
Ave. Common Shares Outstanding $xxx.xx
=====



Price /
Ending Market Price per Common Share
Higher
Earnings
Earnings per Share

C. Significance of the Ratio Group in the GL Account ID Record
You must assign an appropriate ratio group in the applicable GL Account ID
record. Incorrect assignment or non-assignment of a ratio group in a GL
Account ID record results in an inaccurate ratio. Analysis of the company’s
financial status and performance based upon incorrect ratios may result in
inappropriate business decisions.
For example, if you assign a “Cash” ratio group to the Trade Accounts Receivable
GL Account ID record, the Age of Receivables ratio will be understated. The
presence of a low Age of Receivables ratio means that it takes a short amount of
time to collect your accounts receivable. If the reported Age of Receivables ratio
is lower than what it should be, you may not be aware that there is a problem

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with collecting your accounts receivables; and thus, will not make decisions for
its resolution.
D. Ratios that are Not Applicable to a Non-Profit Company
If your company is using fund accounting, the following ratios are not applicable:
• All Profitability Ratios including Asset Turnover, Gross Profit, Profit Margin,
Return on Total Assets, and Return on Stockholder’s Equity
• Debt-to-Equity Ratio
• Equity Ratio
• All Stockholder Valuation Ratios including Book Value per Common Share,
Earnings per Share, and Price / Earnings.

As you can see from the information presented, understanding the Ratio Analysis
Report provides a clearer understanding of the Ratio Analysis feature, the formulae
for the financial and performance ratios, the significance of assigning appropriate
ratio groups in the GL Account ID records as well as the ratios that are not applicable
to nonprofit companies.


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Software Corporation (“AccountMate”) disclaims all warranties, either express or
implied. In no event shall AccountMate be liable for any damages whatsoever
including direct, indirect, incidental, consequential, loss of business profits, or special
damages, even if AccountMate has been advised of the possibility of such damages.


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