Question

1. in both business and our lersonal lives, why are financial ratios useful? what insight do they provide?

2. Why is a 50-20-30 budget ratio insightful? How do you think individuals could use this ratio within their own lives?

Answer 1

1.

Importance of financial Ratios

Financial ratios are important tools for quantitative analysis. Certain ratios are available to evaluate both short- and long-term financial and operational performance, making them useful at identifying trends in the business or individual's income and providing warning signs when it may be time to make a change. There are also specific ratios that can measure important variables essential to one industry or another. By evaluating particular ratios, a business or individual can benchmark itself against similar companies and understand its strengths, weaknesses, threats and areas of opportunity.

Common Ratio Types and their benefits-

While there are dozens of ratios to consider here are some common ones many companies include in their annual or quarterly assessment.

• Liquidity Ratios – These ratios are designed to indicate a company’s or individual's ability to manage short-term financial obligations, including short-term debt. The ratio is calculated by comparing the company’s liquid assets (those that can be turned into cash easily) against current short-term liabilities. The higher the coverage, the greater the ability to cover short-term debt. By contrast, lower coverage means a decreased ability to handle short-term debt. When a company is having trouble meeting short-term financial obligations, it could very well be an indicator of trouble, and day-to-day operations could be impacted. Examples of liquidity ratios include current, quick, cash, and days of working capital ratios.
• Leverage Ratios – Leverage ratios are designed to indicate the long-term health of a business or individual. Their primary role is to indicate how much capital comes from debt, such as loans and credit, and to determine the ability of a company to meet its long-term financial needs. Leverage ratios are important because they illustrate how much a company relies on the mixture of debt and equity to maintain operations. Examples of leverage ratios include debt to equity, long-term debt to capitalization, and total debt to capitalization ratio.
• Profitability Ratios – Profitability ratios indicate a company’s or indidvidual ability to generate earnings against cost during a given period. The ratios reveal how well a company is making use of its assets to generate a profit. Profitability ratios are generally used to determine how profitable a company is in one period of time over another period of time (year, quarter or month). Examples of profitability ratios include profit margin, return on assets, and return on equity.
• Asset Management Ratios – Asset management ratios attempt to determine how well a company or individual is using its assets to generate sales. The information provided by these numbers is often useful in offering insight into the success of a company’s credit policy and inventory management strategy. Examples of asset management ratios include inventory turnover, days sales are outstanding, receivables turnover, and total assets turnover.

2.

Senator Elizabeth Warren popularized the so-called "50/20/30 budget rule" (sometimes labeled "50-30-20") in her book, All Your Worth: The Ultimate Lifetime Money Plan. The basic rule is to divide up after-tax income and allocate it to spend: 50% on needs, 30% on wants, and socking away 20% to savings.

 Here, we briefly profile this easy-to-follow budgeting plan.

50%: Needs

Needs are those bills that you absolutely must pay and are the things necessary for survival. These include rent or mortgage payments, car payments, groceries, insurance, health care, minimum debt payment, and utilities. These are your "must-haves." The "needs" category does not include items that are extras, such as HBO, Netflix, Starbucks, and dining out.

30%: Wants

Wants are all the things you spend money on that are not absolutely essential. This includes dinner and movies out, that new handbag, tickets to sporting events, vacations, the latest electronic gadget, and ultra-high-speed Internet. Anything in the "wants" bucket is optional if you boil it down. You can work out at home instead of going to the gym, cook instead of eating out, or watch sports on TV instead of getting tickets to the game.

20%: Savings

Finally, try to allocate 20% of your net income to savings and investments. This includes adding money to an emergency fund in a bank savings account, making IRA contributions to a mutual fund account, and investing in the stock market. You should have at least three months of emergency savings on hand in case you lose your job or an unforeseen event occurs. After that, focus on retirement and meeting other financial goals down the road.

CONCLUSION

Saving is difficult, and life often throws unexpected expenses at us. By following the 50-20-30 rule, individuals have a plan with how they should manage their after-tax income. If they find that their expenditures on wants are more than 20%, they can find ways to reduce those expenses that will help direct funds to more important areas such as emergency money and retirement.

Life should be enjoyed, and it is not recommended to live like a Spartan, but having a plan and sticking to it will allow you to cover your expenses, save for retirement, all at the same time doing the activities that make you happy.

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