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## Ratio Analysis Techniques for Improving Your Small Business

Ratio analysis enables you to spot trends and measure business performance by providing important information that allows you to identify and fix problems before they consume your business.

However ratio analysis can be complex in nature. There are some basic ratios that you as a small business owner can calculate to determine liquidity (does my business have enough cash to cover expenses), activity (are my business activities generating good returns) and profitability (is my business making a profit). Making margins? I expect). Let’s look at these ratios in detail.

1. Liquidity Ratio – Measures your ability to meet your short term goals. For example: Can you pay all your bills today using your balance sheet? For this answer we will use the quick ratio formula.

Quick Ratio = Current Assets-Inventory-Current Liabilities;

In this example we will use the service business we will ignore the list

Let’s say your current assets are $10,000 in cash, $15,000 in receivables, and $8,000 in common stock.

Your liabilities are $30,000 in accounts payable and $8,000 in notes payable.

Your target ratio > 1.1

$33,000 = 0.87

$38,000

Problem: Your current liabilities exceed your current assets.

Solution: Set new terms for your receivables, or find ways to increase your cash flow. See the numbers never lie, so with this new information you can implement a targeted strategy to increase your current wealth.

Let’s look at another activity ratio

2. Activity Ratio – Measures how efficiently your business resources are being used (average collection period, inventory turnover). For this example we will look at inventory transactions for a discount store ie.99 store.

Inventory Turnover – How many times inventory turnover occurred in a given year. The higher the turnover ratio the better. Now to calculate this ratio you also need to know what your industry standard ratio is. A quick Google search for your industry will provide this information.

Let’s say your cost of goods sold was $150,000 and your inventory on hand is worth $80,000.

Example: discount store

Industry Standard Ratio 4

Cost of goods sold = $150,000 = 1.9

Inventory $80,000

Problem: Your rate of inventory turn over is much slower than your industry average.

Solution: Adding an automated inventory system that tracks how much inventory you have on hand at any given time. So you don’t buy extra inventory. Understanding inventory management is critical to increasing your sales and increasing your profits!

Hopefully at this point you understand how ratio analysis can improve and help grow your small business.

Finally let’s look at the profit

3. Profitability Ratio – is a group of financial ratios that measure the return on sales and investment

Example: A high-end boutique selling high-priced goods, and your target profit margin is > 15% of sales. Your sales for the year are $350,000. Your net profit after taxes is $60,000

Net profit after taxes = $60,000 = 17.1%

Sales $350,000

In this example you are 2% above your target profit! You are making money, your business is growing and business is good!

As we have seen above; Using ratio analysis is a simple, yet effective way to increase business performance and promote business growth.

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