Your accounts show sales, debts and a profit. How do you know whether those numbers are moving in the right direction? Financial ratios compare selected figures to help you assess liquidity, financing and profitability.
The aim is not to calculate as many as possible. It is to understand what each result measures, what might distort it and what to check next.
Key points
- Choose ratios that support a decision, rather than collecting indicators for their own sake.
- Distinguish the cash ratio, quick ratio and current ratio.
- Compare periods using consistent definitions and take your industry into account.
- A ratio calculated at year end can hide cash shortages experienced during the year.
Financial ratio formulas and interpretation: free PDF
A one-page reference sheet with eleven indicators, their formulas, how to read them and the main pitfalls. Keep it beside your financial dashboard.
The three liquidity ratios
Cash means money available in bank accounts and petty cash. Trade receivables are customer invoices still awaiting payment. Current assets include cash, receivables and inventory. Current liabilities are obligations due within twelve months of the balance sheet date or within the normal operating cycle.
The cash ratio compares cash with current liabilities. The quick ratio adds the short-term receivables included in your analysis. The current ratio uses all current assets. In Swiss terminology, these are also called first-, second- and third-degree liquidity ratios.
| Indicator | Simplified formula |
|---|---|
| Cash ratio — first-degree liquidity | Cash ÷ current liabilities × 100 |
| Quick ratio — second-degree liquidity | (Cash + short-term receivables) ÷ current liabilities × 100 |
| Current ratio — third-degree liquidity | Current assets ÷ current liabilities × 100 |
Calculate all three ratios using the same figures
Take CHF 20,000 in cash, CHF 40,000 in receivables, CHF 30,000 in inventory and CHF 60,000 in current liabilities, with no other current items. The calculations are:
| Ratio | Numerator in this example | Denominator | Result |
|---|---|---|---|
| Cash ratio | Cash: 20,000 | Current liabilities: 60,000 | 33.3% |
| Quick ratio | Cash + receivables: 60,000 | 60,000 | 100% |
| Current ratio | Current assets: 90,000 | 60,000 | 150% |
If the denominator is zero, this formula cannot produce a ratio: do not show an arbitrary percentage. Negative equity can make other ratios misleading and calls for a review of the accounts and legal obligations. No universal liquidity threshold guarantees solvency by itself.
A ratio tells you where to look, not what to decide on its own
A current ratio of 150% appears comfortable: current assets are one and a half times current liabilities. Yet if much of those assets consists of slow-moving inventory, the business may still lack the cash to pay wages on Friday.
That is why the numerator’s composition matters as much as the percentage. Overdue receivables do not offer the same reassurance as confirmed payments expected shortly. On the other side, debts spread over twelve months create different pressure from bills due next week.
Treat each ratio as a question. Deteriorating liquidity calls for a review of payment dates and assets that can be turned into cash. Falling profitability calls for an analysis of prices, sales mix and expenses. The ratio highlights the signal; the detailed records explain its cause.
Assess how the business is financed
The equity ratio is equity ÷ total assets × 100. The liabilities-to-assets ratio uses total liabilities in the numerator.
A business with CHF 80,000 in equity and total assets of CHF 200,000 has an equity ratio of 40%. Liabilities finance the remaining 60%.
Interpret the liabilities ratio alongside business stability, repayment dates, security and repayment capacity. The same percentage can represent very different risks. For the wider picture, see our guide to balance sheet analysis.
Solvency, gearing and the cash ratio: what do they mean?
Solvency means the ability to meet obligations. The term “solvency ratio” can refer to several calculations: some sources use total assets divided by liabilities, while others use an equity-based measure. Always write down the formula before comparing results.
Gearing, as used here, compares net financial debt with equity: (financial debt − cash) ÷ equity. With CHF 100,000 of financial debt, CHF 30,000 in cash and CHF 140,000 in equity, gearing is 50%. It cannot be calculated meaningfully with zero equity and becomes difficult to interpret when equity is negative.
The cash ratio measures immediate liquidity: cash ÷ current liabilities. It shows how much of the short-term obligations can be covered without collecting customer invoices or selling inventory. Sources may include different cash equivalents or marketable securities, so check the precise numerator before comparing figures.
Distinguish legal warning signs from financial ratios
Weak liquidity calls for analysis and action; it does not, by itself, establish that a company is legally bankrupt. Swiss law distinguishes monitoring solvency, loss of capital and overindebtedness (Articles 725–725b of the Code of Obligations).
Loss of capital arises in particular when assets less liabilities no longer cover half the sum of share capital and the statutory reserves specified in Article 725a. Reasonable grounds to suspect overindebtedness require interim accounts to be prepared and examined under Article 725b. An arbitrary ratio threshold cannot replace these assessments. Our guide to bankruptcy and financial difficulties explains the steps.
Revenue and profit: understand the difference
Before calculating a margin, distinguish sales from profit. This French-language video explains the basics; the formulas and worked examples in this guide then help you interpret your ratios.
Explore the Entreprendre en Suisse avec Sarah et Romain channel (French) →
Understand profit margins and return on equity
Net profit margin compares net profit with revenue. With CHF 30,000 in net profit on CHF 500,000 in sales, the margin is 6%.
Gross margin depends on the cost deducted: cost of goods sold for a retailer, or another clearly specified cost definition for the business model. Use the same approach consistently. Our guide to profit margins explains the main calculations.
Return on equity, or ROE, compares net profit with equity, ideally averaged over the period. With CHF 30,000 in profit and average equity of CHF 150,000, ROE is 20%.
High ROE can result from very low equity and heavy borrowing. If equity is zero or negative, interpretation becomes particularly limited: do not present it as an ordinary measure of performance.
Higher ROE does not always mean better performance
Two businesses each have average assets of CHF 200,000 and annual net profit of CHF 10,000, after their respective finance costs. The first has average equity of CHF 100,000; the second has CHF 20,000. Their ROE is 10% and 50% respectively.
The second shows a higher percentage but earns no more profit in francs. It relies on much less equity and more debt. Profitability, financial risk and repayment dates therefore need to be assessed together.
Another trap: dividing a CHF 10,000 loss by negative average equity of CHF 20,000 gives a mathematically positive 50%. Describing that as a positive return would be misleading. State that ROE cannot be interpreted as an ordinary performance indicator in this situation, then examine the losses and equity position.
A formula can be correct while the explanation is wrong. Always check the sign, amount and composition of the denominator.
Monitor inventory and collection periods
Inventory turnover is commonly calculated as cost of goods sold ÷ average inventory. Six turns a year corresponds to about 61 days on a 365-day basis.
Days sales outstanding can be estimated as average trade receivables ÷ credit sales for the period × number of days. Use consistent VAT bases: comparing VAT-inclusive receivables with VAT-exclusive sales artificially inflates the collection period.
Days payable outstanding follows a similar logic, using trade payables and the corresponding credit purchases. Averages and seasonality matter: an exceptional balance on 31 December can give a misleading picture of the year.
Customer, inventory and supplier periods in three formulas
| Period | Formula |
|---|---|
| Days sales outstanding — DSO | Average trade receivables ÷ annual credit sales × 365 |
| Days inventory outstanding — DIO | Average inventory at cost ÷ annual cost of goods sold × 365 |
| Days payable outstanding — DPO | Average trade payables ÷ corresponding annual credit purchases × 365 |
The cash conversion cycle combines these periods: DIO + DSO − DPO. With 61 inventory days, 45 customer days and 30 supplier days, it is 76 days. This describes the timing gap between purchases, sales and payments; it is not the number of days of cash remaining.
Keep the scope consistent: payables for goods should not be divided by all business expenses. Purchases during the period are not necessarily equal to cost of goods sold, because inventory can change.
Calculate days sales outstanding and interpret the result
Take an illustrative business with no VAT effect in this example, annual credit sales of CHF 360,000 and average trade receivables of CHF 30,000. On a 360-day basis, the estimated collection period is 30,000 ÷ 360,000 × 360 = 30 days.
If average receivables rise to CHF 45,000 with sales unchanged, the period becomes 45 days. Those extra fifteen days tie up another CHF 15,000. Look for the cause: longer credit terms, late payments, disputes or delayed invoicing.
In a seasonal business, an average based on several month-end balances is often more representative than the closing balance alone. Consistent VAT bases also matter: comparing VAT-inclusive receivables with VAT-exclusive sales distorts the calculation.
Record each ratio’s exact formula, period, previous value and explanation of the change alongside it in your dashboard. This makes monthly comparisons reliable. Four indicators that everyone understands are more useful than fifteen percentages nobody can explain.
Understand net working capital and operating working capital
Net working capital can be calculated as long-term funding minus non-current assets, equivalent to current assets minus current liabilities. The operating working capital requirement measures funding tied up in the operating cycle: principally inventory and operating receivables less operating payables.
These are amounts, rather than ratios. They add useful context to percentages: a CHF 40,000 rise in operating working capital can explain a cash shortage despite a healthy profit.
A complete example: a 150% current ratio, but funding is still needed
Return to CHF 20,000 in cash, CHF 40,000 in receivables and CHF 30,000 in inventory. Add CHF 110,000 in non-current assets: total assets are CHF 200,000. Funding consists of CHF 80,000 in equity, CHF 60,000 in long-term liabilities and CHF 60,000 in current liabilities. The latter comprise CHF 30,000 in trade payables and CHF 30,000 in short-term bank borrowing.
| Measure | Calculation | Interpretation |
|---|---|---|
| Current ratio | 90,000 ÷ 60,000 = 150% | Current assets exceed current liabilities. |
| Equity ratio | 80,000 ÷ 200,000 = 40% | Equity finances 40% of assets. |
| Net working capital | 80,000 + 60,000 − 110,000 = CHF 30,000 | Long-term funding leaves CHF 30,000 for the operating cycle. |
| Simplified operating working capital requirement | 30,000 inventory + 40,000 receivables − 30,000 trade payables = CHF 40,000 | The operating cycle ties up CHF 40,000. |
| Net cash position | 30,000 − 40,000 = CHF −10,000 | This equals CHF 20,000 in the bank less CHF 30,000 of short-term bank borrowing. |
These results are consistent: the business holds inventory and receivables but also uses short-term bank finance. To decide what to do, examine collection dates, how quickly inventory sells and when the loan falls due. A current ratio of 150% does not answer those questions.
Build a useful dashboard
Choose a few consistent measures: margin, liquidity, equity and collection periods, then add indicators specific to your business. For each one, define the data source, review frequency and action to take if it deteriorates.
Compare your business with its own history first, then with genuinely comparable industry benchmarks. A food retailer, consultancy and manufacturer cannot be assessed using identical inventory periods or asset levels.
Always supplement historical ratios with a cash flow forecast. A ratio describes a position; it does not guarantee that future bills can be paid.
Choose indicators that help you make decisions
Start with your business’s priorities: paying bills, protecting margins, limiting inventory or funding growth. Then select the relevant ratios and connect each one to a specific check.
Our accounting team can help you work from consistent data and interpret these indicators in the context of your business.
Frequently asked questions
Is a current ratio above 100% enough?
No. You must check when the assets will turn into cash and when the liabilities have to be paid.
Should I use 360 or 365 days?
Both conventions are used. State which one you use and keep the same basis when comparing periods.
How many financial ratios should I monitor?
A few well-defined indicators are often enough. Add another only when it answers a specific management question.
What is the difference between net working capital and the operating working capital requirement?
Net working capital measures long-term funding left after non-current assets. The operating working capital requirement measures money tied up in the operating cycle, principally inventory and receivables less operating payables. On consistent definitions, the difference gives the net cash position.
Where do I find the figures needed for financial ratios?
Use the balance sheet for assets, liabilities and equity, the income statement for sales and profit, and the customer, supplier and inventory records for operating periods. Averages across several month ends often improve the analysis for seasonal businesses.
Sources and references
Romain Prieur is a Swiss certified public accountant and the founder of Entreprendre.ch. With more than ten years of experience in auditing and advising businesses in Switzerland, he helps entrepreneurs with company formation, accounting and tax.
