There are three financial statements that are prepared regardless of the business structure (nonprofit, private; nonprofit, public; for-profit, private; or for-profit, public):
Balance sheet.
Income statement.
Statement of cash flows.
These statements are used by health services managers to assess how well the leadership team is doing in managing assets, properly leveraging debt and equity, maintaining liquidity and solvency, and achieving profitability. This is done by examining the relationship between figures on the statements and through a process known as ration analysis. There are many stakeholders interested in certain financial ratios, such as lenders, vendors, leadership, personnel, and the community.
There is a fourth financial statement referred to as the statement of change in equity, which provides explanations for changes in a firm's equity; however, it isn't typically used in performing ratio analysis.
For this discussion:
You are an administrative intern and your boss, the controller, has asked you to identify one asset management ratio, debt management ratio, liquidity ratio, solvency ratio, and profitability ratio that you believe to be the most important to an organization, and then prepare a brief defense of your choices.
Full Answer Section
Debt management ratio: Debt-to-equity ratio (D/E). This ratio measures the amount of debt a health services organization has relative to its equity. A high D/E ratio indicates that the organization is highly leveraged, which can increase its risk of financial distress. A low D/E ratio indicates that the organization is less leveraged, which can reduce its risk of financial distress.
Liquidity ratio: Current ratio. This ratio measures a health services organization's ability to meet its short-term obligations. A high current ratio indicates that the organization has a strong liquidity position, while a low current ratio indicates that the organization has a weak liquidity position.
Solvency ratio: Quick ratio (acid-test ratio). This ratio is similar to the current ratio, but it excludes inventory from the current assets calculation. This makes the quick ratio a more conservative measure of liquidity, as inventory can be difficult to sell quickly in the event of a financial emergency.
Profitability ratio: Operating margin. This ratio measures the percentage of a health services organization's revenue that is left over after paying for its operating expenses. A high operating margin indicates that the organization is profitable, while a low operating margin indicates that the organization is less profitable.
These are just five of the many financial ratios that can be used to assess the health of a health services organization. The specific ratios that are most important will vary depending on the organization's specific circumstances. However, the five ratios listed above are a good starting point for any health services organization that wants to improve its financial health.
In addition to the five ratios listed above, there are a few other ratios that may be important for health services organizations, such as:
- Asset turnover ratio: This ratio measures how efficiently a health services organization is using its assets to generate revenue.
- Return on equity (ROE): This ratio measures the return that shareholders are earning on their investment in the organization.
- Return on assets (ROA): This ratio measures the return that the organization is earning on its assets.
These ratios can be used to assess the organization's efficiency, profitability, and overall financial health. By tracking these ratios over time, the organization can identify areas where it can improve its financial performance.