A brand new business owner may not necessarily be found as a financial expert. It is quite common and natural that a start-up will often be required to take a loan. Investors normally wish to be provided with an extensive financial analysis and data before considering granting any such loan to the owner for their start-up.
So, what is this data, and where does it come from? The data is from the bookkeeping records that calculates all of the company’s financial ratios. These ratios define the health and well-being of a business along with the risks. Investors are highly interested to see these facts and figures before deciding if they wish to invest in that certain business or not.
Ratio analysis is one of the most recognized methods used to determine a business’s overall financial condition. These ratios are also most useful in making comparisons and assessments between a client and other companies in the industry.
In accounting and bookkeeping, each of the below ratios is extremely important for credit professionals to make informed decisions. They can judge and decide if they should or shouldn’t give customers credit, exactly how creditworthy the business is, how much they should invest, and the appropriate terms of sale.
Financial Ratios That Lenders Review when Deciding the Credit Worthiness of a Business
The debt-to-equity ratio permits lenders to compare a company’s assets with their debts. A lender considers a business as high risk when their equity debt is a high ratio. They would much rather invest in a business where the ratio calculated is found to be of little or no debt.
To calculate the debt-to-equity ratio, take a company’s recent balance sheet. Divide the figure of total liabilities by their total figure of shareholder’s equity. For example, for a business with $200,000 as liabilities and $400,000 as assets, that company’s debt-to-equity ratio will be calculated as 0.5.
An operating margin is used to calculate a company’s profit as a percentage of their total sales. Operating margins find a company’s total revenue and total profit. These figures give a clear picture of where the company is standing in terms of efficiency.
To determine the company’s operating margin, divide the income from operations by the total figure of net revenues. For example, a company with a $1 million figure from $100 million yearly profits from their sales will have its operating margin calculated at 1%.
The current ratio is used as a liquidity ratio. This ratio is calculated when the total current assets’ total sum is divided by the total current liabilities. This ratio measures if you have sufficient assets to pay for your liabilities. If your current ratio is calculated to be two, it means that you have twice as many current assets as your current liabilities.
A company’s production and purchasing efficiency can be calculated by using the inventory ratio. The inventory ratio gives a fair picture of how many times the company can sell their inventory for a specific period.
To calculate this ratio, divide the entire cost of the services or products sold with the entire inventory cost. If the ratio is higher, it means the company is more efficient at turning over their inventory. Lenders will take and consider such businesses as creditworthy and most likely to be successful and productive for investment.
Let’s take an example of this. If a business has sales of $500,000 and an inventory of $100,000, the inventory ratio calculated will be 5-to-1.About Complete Controller® – America’s Bookkeeping Experts Complete Controller is the Nation’s Leader in virtual bookkeeping, providing service to businesses and households alike. Utilizing Complete Controller’s technology, clients gain access to a cloud-hosted desktop where their entire team and tax accountant may access the QuickBooks™️ file, critical financial documents, and back-office tools in an efficient and secure environment. Complete Controller’s team of certified US-based accounting professionals provide bookkeeping, record storage, performance reporting, and controller services including training, cash-flow management, budgeting and forecasting, process and controls advisement, and bill-pay. With flat-rate service plans, Complete Controller is the most cost-effective expert accounting solution for business, family-office, trusts, and households of any size or complexity.