Financial Ratios, Essay Example

The current ratio is one of the most commonly used analytical tools to determine a company’s ability to pay off its current short-term liabilities.  In our situation, the current ratio shows that we had 2.3:1 last year, which means that for every dollar of liability, there is $2.30 in current assets.  This year, our current ratio dropped to 1.7:1, which can be alarming for investors.  This shows that our current assets have dropped in relationship to current liabilities and could continue to do so.  In all likelihood, we probably have taken on additional short-term liabilities that exceed our current assets.  These must be limited so that we can get closer to the 2:1 range, which is often considered optimal (Yahoo! Money Matters, n.d.).  In addition, the Quick Ratio is another liquidity ratio that helps determine the ability of a company to pay its short-term debts using only the most liquid assets available, such as cash or cash equivalents.  Again, our ratio was higher last year than this current year, which means our liabilities have likely increased.

Several profitability ratios are also included in these quick calculations.  The Inventory Turnover Ratio shows how many times a year the total average inventory is sold.  If the inventory turnover is higher, it will likely translate to more funds received through sales.  Therefore, our company would be more profitable and appealing to investors.  We must increase sales in the long run because our inventory turnover ratio decreased from last year to this year and this does not bode well for potential investors.  The Net Sales to Working Capital ratio helps determine the amount of cash required to maintain a certain level of sales within the company (Accounting Tools.com, 2010).  In this case, the lower the ratio is the better it attracts potential investors because it means that we are using less working capital to achieve our sales goals.  This decreased for us from the previous year, which is a good thing.  We must continue to maintain these similar patterns and ensure that all working capital is kept at a minimum usage.  Finally, our average collection period on accounts receivables has increased meaning that it is taking us longer to retrieve funds that are owed to us by consumers this year than the previous year.  We must institute a strict accounts receivable policy and not be afraid to reject individuals from receiving our products on account.  Furthermore, this can allude to creditors that our receivables may be questionable and we may have bad debts owed to us that can translate into write offs in the long run.  This is never a good sign for investors.

One of the top rated of the prestigious Fortune 100 companies has consistently been the Exxon Mobile Company.  This organization has maintained one of the best financial portfolios and continues to be held as a highly reputable organization that is a good place to be employed.  Exxon Mobile currently has reported quarterly financial ratios for the quarter ending in March 2010.  First of all, its Current Ratio has been reported as being 1.1:1 (Forbes.com, 2010).  This means that $1.10 of current assets are available to cover each dollar of short-term debts.  This is not great and according to previous research, it is not the most desirable ratio range.  However, a very appealing aspect of Exxon Mobile is its relatively low Quick Ratio which was reported in March as being 0.7:1 (Forbes.com, 2010).  This ratio is at a relatively middle-range level and shows that there is a good amount of highly liquid assets available to pay off current short-term debts, but these are not assets that the company wants to rely on.  It is clear based on these two ratios that the organization does not worry about short-term debts and does not believe that it requires large amounts of current assets or highly liquid assets on hand to pay off such debts.

Furthermore, the company has reported profitability ratios that show exactly why the organization remains a highly reputable and well-established company.  Exxon Mobile currently has an Inventory Turnover Ratio of 17.9:1 (Forbes.com, 2010).  This means that the company consistently sells its merchandise and product fairly quickly and needs to replenish inventory supply on a regular basis.  In addition, the company has reported a Receivables Turnover of 12.6:1, which shows that every 12.6 days the company is able to collect on the average amount of accounts receivable (Forbes.com, 2010).  This is critical for investors and shows that the company is able to collect on any outstanding receivables relatively quickly and may not require a large Bad Debts Expense for writing off uncollectable receivables.  Clearly, this organization is very profitable and has the ability to pay its debts if the need ever came about.

Works Cited

AccountingTools.com. (2010). Accounting tools – sales to working capital ratio. Retrieved from http://www.accountingtools.com/article-metric-sales-to-workin

Forbes.com, Initials. (2010). Exxon mobile corp financial ratios. Retrieved from http://finapps.forbes.com/finapps/jsp/finance/compinfo/Ratios.jsp?tkr=xom

Yahoo! Money Matters. (n.d.). Understanding financial analysis techniques. Retrieved from http://au.pfinance.yahoo.com/small-business/financial_techniques.html