Accounting Ratio FormulaThere are hundreds of accounting and financial ratio formulas. This post contains the formulas needed to calculate many of the “most common accounting ratios” specifically, as well as brief explanations for each one. They are listed in alphabetical order. Enjoy!

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Accounts Payable Days

This formula is similar to the accounts payable turnover calculation, except that it converts the amount of outstanding payables into the average number of days of purchases that are currently unpaid.

The formula is:

Ending accounts payable / [Annual purchases / 365]

 

Accounts Payable Turnover

This formula reveals the speed with which a company is paying its accounts payable, and is a particularly effective way to determine company liquidity levels when tracked on a time line, so that changes in payment patterns are readily apparent.

The formula is:

Total purchases / Average level of accounts payable

 

Accounts Receivable Days

This formula is similar to the accounts receivable turnover calculation, except that it converts the amount of outstanding receivables into the average number of days it will take to collect them.

The formula is:

[(Beginning accounts receivable+ending accounts receivable) /2] / [Annualized revenue/365]

 

Accounts Receivable Turnover

This formula is used to determine the number of days over which the average account receivable is outstanding. It is best used when plotted on a trend line, in order to spot and act upon any unfavorable changes.

The formula is:

Annualized credit sales / [(Beginning accounts receivable + ending accounts receivable) / 2]

 

Backlog To Sales Ratio

This formula is a good way to determine if there will be trouble achieving sales goals in the near term, since a low proportion of backlog to sales reveals that only some last-minute orders will allow a company to reach its sales targets. However, the ratio can be misleading if sales are highly seasonal, since the backlog will drop significantly once the prime sales season is over.

The formula is:

Dollar total of all orders not yet in production / Average monthly revenue

 

Backlog Days Ratio

This formula is similar to the backlog to sales ratio, except that it converts the backlog amount into the number of days sales that they represent.

The formula is:

Total backlog / [Annualized revenue / 365]

 

Bill Of Material Accuracy

This formula reveals the percentage of line items on a company’s bills of material that contain accurate part numbers, quantities, and units of measure. Though this is not strictly an accounting measure, the accuracy of a company’s bill of material records has a major impact on the accuracy of its finished goods and work-in-process inventory, and so is of concern to the accountant.

The formula is:

Number of accurate parts itemized on a BOM / Total number of parts itemized on a BOM

 

Book Value

This formula results in a price per share that should theoretically be realized if a company were to liquidate, paying off all liabilities. It is strictly theoretical, for it presumes that the liquidation value of all assets and liabilities on the books exactly matches the amounts shown on the balance sheet.

The formula is:

Stockholder’s equity / Number of common shares outstanding

 

Breakeven Plant Capacity

This formula reveals the manufacturing capacity level at which a company will break even. This formula must be used with some caution, for the fixed expense level used in its calculation is assumed to be constant through a wide range of capacity levels (which is not always true), while it also assumes that the current level of capacity usage is known (which may be difficult to determine). Consequently, the results may not be precise.

The formula is:

Fixed expenses x current percent of plant usage / [Revenue – variable expenses]

 

Breakeven Point

This formula is used to determine the minimum sales level at which a company or some smaller business unit will generate a profit of exactly zero. It is particularly useful when compared to production capacity, since it can reveal that a company may use nearly all of its capacity just to reach breakeven, and so has no chance to earn more than a small profit even at full capacity.

The formula is:

Total operating expenses / Average gross margin

Total operatuing expenses are defined as all expenses related to the business unit that are not part of the cost of goods sold.

 

Capital Employed Ratio

This formula is used to determine how efficiently capital is being used to generate sales. It subtracts all assets not directly associated with operations, such as investments, and divides the remainder into annual sales.

The formula is:

Annualized revenue / [(Capital) – (assets not directly related to operations)]

 

 

Cash Flow Adequacy

This formula is the most comprehensive one for determining if a company’s cash flows are sufficient to meet all ongoing commitments outside of standard operations, such as asset purchases, dividend payouts, and debt payments. A ratio of more than one indicates a sufficient level of cash flow.

The formula is:

Cash flow from operations / All budgeted payments for asset purchases, debt, and dividend payments

 

 

Cash Ratio

This formula is more restrictive than the quick ratio, because it compares only those assets that can be immediately converted to cash to any current liabilities (for example, it excludes accounts receivable from the calculation). This gives the best picture of extremely short-term liquidity for an organization.

The formula is:

[Cash + Marketable securities] / Current liabilities

 

 

Cash Turnover Ratio

This formula is used to determine the level of efficient use that management is making of its cash. Ideally, there should be only the minimum amount of cash on hand to deal with operating needs, while all other cash is shifted to investments.

The formula is:

Total sales / Total period-end cash

 

Collection Period

This formula is used to determine the average number of days that invoices are outstanding. Any changes in the collection period over time are indicative of either changes in the level of collection effort, or in the credit policies being extended to customers.

The formula is:

Average annualized accounts receivable / Average daily credit sales

 

Current Ratio

This is a simple means for determining a company’s level of liquidity. If the ratio of current assets to current liabilities is substantially greater than one, then the company can be said to have good liquidity. However, since a component of this calculation is inventory (which may not be readily convertible to cash), it can be misleading. A better calculation for the purposes of determining liquidity is the quick ratio.

The formula for the current ratio is:

[Cash + accounts receivable + marketable securities + inventory] / [Accounts payable + other short-term liabilities]

 

Debt/equity Ratio

This formula is used by lenders to determine the degree of leverage that a management team has created. Though this measure will vary widely by industry, a debt level that is higher than the amount of equity will generally be an indication of excessive leverage.

The formula is:

[Long-term debt + short-term debt] / Total equity

 

Dividend Payout Ratio

This formula is used to determine the proportion of cash flow that is being consumed by dividend payments. It is most useful when tracked on a time line, so that one can see if there is a trend that may result in a company’s inability to pay dividends.

The formula is:

Total dividend payments / Cash flow from operations

 

Economic Value Added [EVA]

This formula is used to determine if a company is earning a return on capital that is higher than its cost of capital, and is useful for tracking a company’s ability to provide good returns on invested capital to its investors.

The formula is:

(Net investment) / (actual return on assets—required minimum rate of return)

 

Fixed Asset Turnover

This formula is used to determine the amount of fixed assets needed to obtain a specified sales level. It should not be relied upon for precise predictions of asset investments that will be needed to support increased sales levels, but can be a reasonable method for cross-checking the adequacy of budgeted capital purchases at various levels of sales activity.

The formula is:

Net sales / [(Beginning fixed assets + ending fixed assets)/2]

 

Fixed Assets to Total Assets Ratio

This formula is used to determine the proportion of fixed assets that are likely to be required as other asset levels change. It is most often used as a cross-check when developing budgets, in order to verify if budgeted capital expenditure levels are in line with historical experience.

The formula is:

Total fixed assets prior to depreciation / Total assets

 

Fixed Assets to Debt Ratio

This formula is of most use to a company’s lenders, who may have collateralized their lending with its fixed assets. Lenders will have some assurance that they can offset unpaid debts with the sale of company assets if this ratio is less than one. However, the ratio uses the original book value of the fixed assets, rather than their current fair market value, so the ratio can be misleading.

The formula is:

Total fixed assets / Total collateralized debt

 

Fringe Benefits to Direct Labor Ratio

This formula is used to determine if a company’s benefits expenditures are in line with those of its competitors. It can also be compared to the same ratio for specific departments of companies within other industries, in order to verify that benefit levels are sufficient for specific job categories, as well as industries.

The formula is:

Total fringe benefit expense / Total labor salary and wage expense

 

General and Administrative Productivity

This formula is used to compare the overhead costs in the selling, general and administrative expense categories to overall sales activity. It can be used for benchmarking purposes to see if a company’s expenses in these areas are in line with those of similar companies.

The formula is:

Selling, general & administrative expenses / Annualized revenue

 

Indirect to Direct Labor Ratio

This formula is used to determine the level of efficiency a company has achieved in keeping its supporting staff of indirect labor personnel as small as possible.

The formula is:

Number of indirect labor full-time equivalents / Number of direct labor full-time equivalents

 

Inventory Accuracy

This formula is used to determine the record accuracy within the inventory database. It requires one to compare a detailed list of booked inventory items to the inventory physically in the warehouse, and record as errors anything that has an inaccurate part or product description, location, quantity, or unit of measure. This information is critical to the accountant, who relies on accurate inventory records to create the financial statements.

The formula is:

Number of accurate inventory test items / Total number of inventory items sampled

 

Inventory Days on Hand

This formula is used to determine the number of days it would take to use up all of the inventory on hand, given an average level of sales to do so.

The formula is:

365 days x [Ending inventory/ Annualized cost of goods sold]

 

Inventory Turnover Ratio

This formula is frequently used to compare the proportion of inventory on hand to the level of sales. It can be compared to industry averages to see if there is too much inventory in stock. However, it can be misleading if sales levels fluctuate considerably during the year, resulting in wide fluctuations in the measurement.

The formula is:

Annualized cost of goods sold / Average inventory

 

Net Income to Capital Ratio

This formula is used to determine the return, free and clear of all expenses, that investors are receiving on their invested equity. Though this provides some information to investors, the gain or loss on an investor’s equity is also influenced by the perception of the future value of the company, which may be quite unrelated to the net income figure used in the calculation of this ratio.

The formula is:

Net income / Stockholder’s equity

 

Number of Times Interest Earned

This formula is used to determine the amount of excess cash that a company has available to cover its debt payments. If there is barely enough cash available to do so, then the organization has reached the practical limit of its borrowing capacity.

The formula is:

Average interest expense / Total excess cash flow before interest payments

 

Obsolete Inventory Percentage

This formula is used to determine the proportion of inventory that may require an obsolescence reserve. It is a highly judgmental calculation, since the “no recent usage” part of the calculation can refer to any time period that one may choose.

The formula is:

Cost of inventory items with no recent usage / Total inventory cost

 

Overhead to Direct Cost Ratio

This formula may be of interest when a company is deciding whether to use an activity-based costing (ABC) system. If this ratio is greater than one, then a strong case can be made to switch to ABC, because the company’s cost structure leans so heavily toward overhead costs that it is necessary to take the greatest possible care in allocating it properly.

The formula is:

Total overhead costs / [Total direct material + total direct labor costs]

 

Price-earnings Ratio

This formula is used by investors to compare the relative price of a company’s stock in relation to that of other companies in the same industry. If the ratio is low relative to the industry, then it may be worth buying, on the grounds that the market price of the stock should eventually return to the mean by rising. Also, a high ratio shows that investors have high expectations for the company, and so have bid up its price.

The formula is:

Current market price per share / Earnings per share

 

Purchase Discounts Proportion of Total Payments

This formula is used to determine the percentage of accounts payable for which discounts are being taken, and is most useful when tracked on a time line, in order to see if there are changes in the percentage that are indicative of missed discounts.

The formula is:

Total number of purchase discounts taken / Total number of supplier invoices paid

 

Operating Cash Flow

This formula is used to strip away all impacts on reported cash flows that are caused by financing activities, so that one can see how much cash flow (if any) is being created by operations on an ongoing basis.

The formula is:

Profit + non-cash expenses +/– changes in working capital

 

Quick Ratio

This formula is used to determine a company’s liquidity. It is better than the current ratio, because it excludes the impact of inventory (which may not be easily liquidated). A quick ratio of greater than one is indicative of a reasonable level of liquidity.

The formula is:

[Cash + accounts receivable + marketable securities] / [Accounts payable + other short-term liabilities]

 

Retained Earnings to Capital Ratio

This formula is useful for determining the proportion of a company’s capital that is comprised of retained profits. A high ratio reveals that a company has not only brought in a large amount of funds through profits, but also that it has retained the funds, rather than paid them out through dividends.

The formula is:

Retained earnings / Stockholder’s equity

 

 

Return On Assets [ROA]

This formula is used to determine if company assets are being efficiently utilized to create profits. It focuses attention on the amount of assets used within a company, and frequently leads to tighter management of the capital budgeting process. Be aware that the “total assets” part of the equation includes all assets, such as cash, accounts receivable, inventory, and fixed assets. A common misconception is to only include fixed assets in the calculation.

The formula is:

Net income / Total assets

 

 

Sales Per Person

This formula gives an indication of the efficiency of a company in generating sales and manufacturing products or services. It should be compared to industry averages, since this measure varies widely by industry.

The formula is:

Revenue / Total number of full-time equivalent employees

 

Scrap Percentage

This formula tracks the proportion of scrap that is spun off by a production operation. It is most useful when calculated for specific production lines or machines, so that problem areas can be more quickly identified and corrected.

The formula is:

[(Actual cost of goods sold) – (standard cost of goods sold)] / Standard cost of goods sold

 

Work-in-process Turnover

This formula is useful for determining the proportion of work-in-process inventory that is required to produce a specific amount of product. It is closely watched by those companies installing accelerated production systems, such as just-in-time, that should result in reduced inventory levels in this area.

The formula is:

Total work-in-process inventory / Annual cost of goods sold

 

Working Capital Productivity

This formula is used to determine changes in the proportion of working capital to sales; a reduction in the proportion of working capital is evidence of enhanced levels of operational improvement.

The formula is:

Annual net sales / [(Beginning working capital + ending working capital)/2]