Market Value Ratio

 

Market value ratios helps to determine the financial situation of a company by comparing 

financial indicators with market price per share.It is founded on the belief that the market

price of a share represents the sentiment of investors. i.e what investors think about a

company, it is reflected in market price.. If they think that a company will perform better, then 

the market price per share will be higher. Contrary to this if they think that a company will not 

perform good, then the market price per share will be lower.

1. Price/Earning Ratio: Price/Earning ratio reveals price the investors are willing to

   pay per 1 unit of Earning Per Share. If the value of this ratio is higher, it indicates there 

   is high optimism among the investors towards the company. Thus they are willing to 

   pay higher. On the contrast, if the value is lower, it shows there is declining optimism

   among investors regarding the company. Also it can be linked to growth prospect. A 

   higher PE ratio means a company has higher growth prospect and the lower PE ratio 

   means a company has lower growth prospects.

Mathematically,

Price/Earning Ratio = Price Per Share/ Earning Per Share 

2. Market/Book Ratio:The Market-to-Book (M/B) ratio is a financial metric that compares

   a company's current market price per share to its book value per share. The market price

   per share reflects the prevailing trading price in the stock market, indicating investor 

   perception and market sentiment. In contrast, the book value per share is derived by 

   dividing the company’s total shareholders’ equity by the number of outstanding shares,

   representing the accounting value of the firm’s net assets on a per-share basis. Thus, it is

   the amount which shareholders will get after deducting all liabilities. Also book value 

   represents historical costs of shares. Thus, Market/ Book ratio calculates what the present

   cost is worth compared to historical costs. 

Mathematically,

Market/Book Ratio = Market Value Per Share/ Book Value Per Share

A ratio of more than one indicates that the company is successful in creating value. Whereas 

a ratio of less than one indicates that the company is not successful in creating value.

3. Price/Cash Flow Ratio: Investors commonly consider the Price-to-Cash Flow ratio because

   cash flow figures are less susceptible to accounting manipulation compared to earnings Thus

   they divide market value with cash flow from operating activities to reach to this ratio. In 

   comparison, in the PE ratio, the earnings per share can be easily manipulated by factors 

   like depreciation and others non cash items. 

Mathematically,

Price/Cash Flow Ratio= Market Price Per Share/ Cash Flow Per Share

Market price is the price of stock in stock exchange.. Whereas Cash flow per share is the 

sum of net income plus depreciation and amortization.

An increasing ratio is seen as favorable, as it suggests the company may be overvalued. 

Conversely, a lower ratio implies that the company might be undervalued.

4.  Earning Yield: It is the inverse of P/E ratio. i.e it is calculated by dividing earnings per share 

   with market value per share.

Mathematically,

Earning Yield = Earnings per share/ Market value per share

5. Earning per share: It measures the earning generated or attributable to per share of stock. 

   As a company does its operation, it earns revenue. This revenue deducted by cost factors

   represents the net profit after tax. If preference dividend is deducted from net profit after tax

   and divided by Number of common shares, it gives the earning per share.

Mathematically,

Earnings per share = (Net profit after tax- Preference dividend)/ Number of common shares

While analyzing, higher earning per share is preferable.

6. Dividend Per Share: It is generally seen practice that dividend is distributed from the profit 

   that a company earns. The amount distributed per share is reflected by the Dividend Per 

   Share (DPS) ratio.

Mathematically,

Dividend per share = Dividend paid to equity shareholders/ Number of equity shares

The higher value of dividend per share is considered excellent because it increases belief in 

investors regarding company’s performance.

7. Dividend Pay Out Ratio: It calculates the ratio of dividend paid in comparison to earning

   per share. 

    

   Mathematically, it is calculated as:

Dividend Pay Our Ratio = DPS/EPS

Where, DPS = Dividend per share

             EPS = Earning Per Share

Investors generally prefer a higher ratio, as it indicates better returns. But usually

companies retain some part of earnings which is called retained earning. This is done usually 

for investing activities. I.e Further investment of company to create some extra cash flow as 

well as purchasing assets.

8. Retention Ratio: It is the ratio which shows how much net profit is retained by a company

   for purposes such as purchasing assets or investing in business expansion. Higher the value

   of retention ratio, the higher will be the amount retained. On contrast, lower ratio means lower

   amount has been retained.

Mathematically,

Retention Ratio = (Net Income - Total Cash Dividends) / Net Income

Or,

Retention Ratio = (EPS - DPS)/ EPS

Where, EPS = Earning per share

             DPS = Dividend per share

Or,

 Retention Ratio = 1- Payout Ratio

Where,

Payout ratio is the Dividend Payout ratio

9. Dividend Yield Ratio: The ratio of Dividend Per Share to Market Value Per Share is known

   as dividend yield ratio.i.e  it shows the dividend allocated with respect to per unit of market 

   value of share.

Mathematically,

Dividend Yield Ratio = Dividend Per Share/ Market Value Per share

Higher the value of this ratio, higher will be the dividend distributed and vice versa.

Profitability Ratios

Profitability ratios are financial ratios which measure the profit making capacity of a company. In the task of doing business, a company undertakes various nature of jobs. These all are called operating tasks of a company. Profitability ratios summarizes if all these operating tasks can generate profit or not. To define, “profitability ratios are a group of ratios which show the combined effects of liquidity, asset management and debt management on operating results”.

There are six types of profitability ratios.

1.      Net Profit Margin: Net profit margin is the measure of how much a company has earned per rupee of sales or revenue. It is a crucial measurement ratio because it highlights whether a company is in profit or loss. Investors analyze this ratio to take decision to further invest in a company. Whereas managers take account of this ratio to determine whether a company will be in profit or loss in a certain fiscal year. Thus, it gives them a time for self- improvement.

Mathematically,

Net Profit Margin= Net Income/Sales

A higher net profit margin is beneficial for a company as it indicates strong profitability and efficient operations.. Whereas, decreasing ratio signals that the company is struggling to generate desired profit.

2.      Gross Profit Margin: It is the ratio which shows the share of gross profit in sales. The calculation of gross profit is done by substracting cost of goods sold from sales. Additionally, gross profit is calculated as a percentage of total sales.

Mathematically,.

Gross Profit Margin = Gross Profit/ Sales = (Sales- Cost Of Goods Sold)/ Sales

When analyzing, the increasing ratio is considered good because it shows the profit making capability of the company is high. Alternatively, the decreasing ratio shows the company is wrestling for desired profit.

3.      Operating Profit Margin: The operating profit margin ratio helps to understand profitability by calculating the ratio of EBIT and sales. This calculation reveals the percentage of operating profit within an organization. This operating profit can be used for office expenses once deducted for Interest and Taxes. 

Mathematically, operating profit margin is calculated as:

Operating profit margin= EBIT/ Sales

The calculation of EBIT is straightforward. To calculate its value, all the variable costs are deducted except interest and taxes. Once interest and taxes are deducted, it becomes net profit.

While analyzing,  the higher the value of this ratio, the better a company is managed. Whereas, The lower the ratio, the more it points to ineffective company management.

4.      Basic Earning power: Earning power can be defined as “The power of a company to make profit over a long term”. For this, we calculate Basic Earning Power ratio. It is the ratio of EBIT and Total Assets. In short, it shows how much profit the company earns from its total assets.

Mathematically, Basic Earning Power can be calculated as;

Basic Earning Power = EBIT/ Total Assets

As explained earlier, EBIT is the Earning Before Interest And Tax. Whereas Total Assets can be calculated as the sum of Current Assets and Non-Current (Fixed) Assets. Assets expected to be liquidated or used up within a year are classified as current assets. On the other hand, Non Current (Fixed) Assets can take longer than a year to be realized as cash.

5.      Return On Total Assets: Return on Assets (ROA) indicates how effectively a company converts its assets into profit. Thus, It signifies the return generating capacity of a company.

Mathematically,

Return On Total Assets = Net Income/ Total Assets

In the above formula Net Income denotes earning after interest and taxes (EBIT). Total assets denotes Total Current Assets plus Total Long Term Assets.

This ratio is one of the major ratio in profitability analysis and therefore, is extensively utilized by managers and investors. A higher ROA means a company is highly efficient in utilizing its assets and lower ROA means a company is less efficient in utilizing assets.

6.      Return On Common Equity (ROCE): ROCE measures how efficiently a company has utilized shareholder’s funds to generate income. It shows how much net income is being produced with the equity collected from investors. This ratio is of greater importance to managers, higher authority and investors because of its capacity to analyse the situation of their fund utilization Thus, managers and higher authorities can choose to improve their operation. Whereas investors can choose to further invest or not in the future.

Mathematically,

Return On Common Equity (ROCE) = Net income/ Common Equity

While evaluating, the increasing value of ratio is favorable because it shows the money of investors has been utilized properly. Decreasing ratio shows investors equity hasn’t been utilized properly. Further, to know what ratio is desirable, we can compare it with the prevalent industry standards.

All these ratios are very important financial ratios. They need to be evaluated properly by insiders as well as outsiders before making investment decisions.

 

Further Reads 

 https://usefulfinanceforus.blogspot.com/2025/07/profitability-ratios.html

https://usefulfinanceforus.blogspot.com/2025/07/assets-management-ratio.html 

 

   

 

Debt Management Ratios

 

Debt management ratio is a financial ratio which indicates the level of debt financing in an organization. Naturally an organization may not always have all the funds it needs to operate. So what it does is borrow from lenders for short term and fulfill its obligations. After this, it generates profit  from business and pays to these lenders in time. It is crucial to manage the level of debt financing because too much debt leads to too much interest payment. So it affects profitability. To mitigate this, a company makes a policy of borrowing only to certain percentage. Further, it also calculates several ratios to understand the situation of debt financing and decide accordingly. These ratios are as follows:

1. 1.       Debt Ratio: Debt ratio signifies the share of total debt in total assets. If the share is very high, then it can be trouble for a company because it leads to too much interest payment. Thus, the profit of company will shrink. Also, in such case creditors may not lend further. Therefore it creates trouble for the operation in a company.

Mathematically,

Debt ratio= Total Debt/ Total Assets

Naturally debt ratio shows the parts total debt comprises in total assets. So it gives an early warning to managers to stop financing by debt. Also it gives prior warning to investors to stop lending because a company may not be able to pay.

Example of Calculation

What is the debt ratio of a company with 100 million in total debt and 200 million total assets.

Solution;

Total Debt = 100 Million

Total Assets= 200 Million

Debt ratio= Total Debt/ Total Assets= 100 Million/200 Million = 1/2= 0.5

This ratio can be compared to company standards to determine whether the ratio is higher or not.

 

2.      Debt- Equity Ratio:  Debt equity ratio is the ratio of total debt to total equity. In calculating this, it shows the share of total debt in total equity. We add long term debt and current liabilities to determine the value of total debt. Whereas, total equity includes equity capital, preference share capital and undistributed profits. So debt-equity ratio shows the long term solvency position of a company.

The higher the debt equity ratio, the higher a company is debt financed. As explained in earlier topic, in such case an organization has to pay more interest and so its profits becomes low. If an organization takes huge loan, a very big amount needs to be paid as interest. Thus this situation should be avoided.

It is generally safer for an organization to increase shareholders equity. This is because they don’t have to pay interest on it and also it don’t affect profitability.

Mathematically,

Debt-Equity Ratio= Total Debt / Total Equity

For eg: Calculate the debt-equity ratio of a company having total debt 5 million and total equity of 20 million.

Solution;

Total debt= 5 million

Total Equity = 20 million

Debt-Equity ratio = 5 million/20 million =  0.25

This value should be compared to industry standards to determine if the ratio is higher or not.

 

3.      Long Term Debt to Total Assets Ratio: This is another measure of the solvency position of a company. It is calculated by dividing long term debt with total assets. It also indicates the leverage position of a company, but in case of long term debt and not in case of total debt.

Mathematically,

Long Term Debt to Total Assets Ratio= Long Term Debt/ Total Assets

For example: Calculate the long term debt to total assets ratio if the long term debt is 300 million and total assets is 400 million.

Solution,

Long term debt= 300 Million

Total Assets= 400 Million

Long term debt to total assets ratio = Long term debt / Total Assets= 300 Million/ 400 Million = 0.75

 

4.         Equity Multiplier: Equity multiplier is calculated as the ratio of Total Assets to Total           Equity. So it shows how much times total assets is greater than total equity.

           Mathematically,

           Equity Multiplier= Total Assets/Total Equity

           It can also be used to calculate debt ratio.

           Debt ratio= 1-1/Equity multiplier

           Thus if the equity multiplier is high, the debt ratio is higher. And if the equity multiplier                     is lower, the debt financing is lower.

           It becomes necessary to calculate equity multiplier because it shows how much                             percentage of total assets is financed by total equity.

           For Example: Calculate the equity multiplier if the Total Assets is 250 million and Total                    equity is 150 million.

           Solution,

           Total Assets = 250 million

           Total Equity= 150 million

            Equity Multiplier= 250 million/ 150 million= 1.66

            It shows total assets is 1.66 times total equity.

 

5.      Times Interest Earned Ratio:. As discussed earlier, a company manages its fund through debt financing and equity financing. It is crucial for a company to pay its annual interests because it creates credibility among lenders. Thus, times interest earned ratio is calculated to understand the ability of a company to pay its interest obligations. In this case, higher ratio indicates that a firm can pay its annual interest easily whereas lower ratio shows it will be difficult for a firm to pay its annual interest payment.

Mathematically,

TIE ratio = EBIT/ Interest Charges

For example: Calculate the TIE ratio if a company has EBIT of 100 million and Interest charges of 25 million.

Solution,

EBIT= 100 Million

Interest charges= 25 million

TIE ratio = 100 Million/ 25 Million = 4 times.

 

6.      Cash Coverage Ratio: It is the ratio of cash available in the firm to pay its borrowers to total interest charges. To calculate total cash available, we sum earning before interest and taxes with depreciation. This is because EBIT show the amount of cash available before payment of interest and taxes. Also depreciation is a provision and its cash amount is hold in a company. Thus they are cash reserves.

Higher ratio show that a company can easily fulfill its interest payment obligations and lower ratio shows a company will face difficulty to pay its interest obligations.

            Mathematically,

            Cash coverage ratio = EBIT+ Depreciation/ Interest charges

            For example: Calculate the cash coverage ratio if EBIT is 50 Million and depreciation is                              1 Million. Further the interest charges is 20 million.

            Solution,

            EBIT= 50 Million

            Depreciation = 1 Million

            Interest Charges= 20 Million

            Cash Coverage ratio = EBIT+ Depreciation/ Interest Charges = 50 mil + 1 mil/ 20 mil=                                                                                                          51/20 = 2.55

 

7.   Fixed Charge Coverage Ratio :  An organization leases its unused assets to other                        companies for earning. Further they also take assets on lease from other companies. Also            they have sinking fund payment associated with debt. Sinking funds are the funds that are            accumulated on regular intervals for payment obligations which may arise in the future.

      Mathematically:

Fixed Charge Coverage Ratio = EBIT+ Lease Payments

                         Interest Charge+ Lease Payments+ (Sinking fund payments/ 1- tax rate)

 

The higher the ratio, the better the capacity of an organization to pay its fixed charges. The lower the ratio, the difficult it is for a company to pay its fixed charges.

For Example: Calculate the Fixed charge coverage ratio of a company with EBIT 50 million, lease payments of 2 million, sinking fund payments of 0.5 million and tax rate off 30 percent.

Solution,

 EBIT= 50 Million

Lease Payment= 2 million

Interest charge= 10 million

Sinking funds payment = 0.5 Million

Tax rate= 30 Percent

 Fixed charge coverage ratio= (50+2)/(10+2+(0.5/1-0.3))= 52/(12+0.71) = 4.09 times

 

8.      EBITDA Coverage Ratio: It is the ratio of sum of EBITDA and lease payments divided by the sum of Interest, Principal Payments and Lease Payments. Generally this ratio is developed by Bankers to minimize the deficiencies of TIE ratio. While calculating this ratio, increasing ratio is considered favorable which shows the companies capability to pay the fixed charges.

Mathematically,

 EBITDA coverage ratio= (EBITDA+Lease Payments)

                                       ( Interest+Principal Payments+ Lease Payments).

 For eg: Calculate the EBITDA coverage ratio if EBITDA is 50 million, Lease payments   of 5 million, Interest of 2 million and principal payments of 1 million.

 Solution,

 EBITDA= 50 million

 Lease Payments= 5 Million

 Interest= 2 Million

 Principal payments= 1 million

 EBITDA= (50+5)/(2+1+5)=55/8=  6.875 times

 

Further Reads 

https://usefulfinanceforus.blogspot.com/2025/07/assets-management-ratio.html

https://usefulfinanceforus.blogspot.com/2025/07/profitability-ratios.html