Financial stability ratio: balance formula, normative value

2024 Author: Henry Conors | [email protected]. Last modified: 2024-02-12 02:55

Financial stability indicates a company's resilience and ability to survive in a competitive environment. It is evidence of the good state of the company's resources in the reporting period, reflects the company's ability to freely and efficiently use its financial resources, while ensuring the current production of products, taking into account the necessary costs for this production.

The main task of the management and management of the company is the ability to ensure its financial stability, direct activities in the direction of making a profit.

A firm is called sustainable when external factors affect the activities of the enterprise, and it is still able to function normally, fulfill its obligations and its goals and objectives.

Financial sustainability concept

The financial stability of a company is a state in which its solvency is constant over time, and the capital structure has a rational ratio between resources,owned and borrowed from the company.

Thus, financial stability is characterized by such a ratio of resources in which the company's activities meet the needs of the market and form the needs of its development in the future, which is revealed in the process of analyzing the financial stability ratios of the enterprise

Aims of analysis

The main objectives in analyzing the financial stability of a company are:

• research of indicators of solvency and financial stability of the company, identification of violations and their causes;
• development of recommendations and ways to improve financial stability, liquidity and solvency;
• optimal use of resources and stabilization of activities;
• forecasting future performance and financial stability depending on the ratio of resources in the company.

Main influencing factors

Among internal factors are:

• costs in the production process, as well as the ratio between the share of fixed and variable costs;
• rational composition of assets and choice of ways to manage them;
• rational resource structure and proper management;
• availability of raised capital. Increasing the amount of debt capital increases the financial capacity of the company, but at the same time increases the risk of default.

When calculating the financial stability ratios of an enterprise, it is necessary to take into accountexternal factors:

• influence of the economic situation in the country;
• market competition;
• macroeconomic indicators;
• policy of the country (principles of economic regulation, land reform, the right to consumer protection);
• inflation rate.

Infobase

Information for analysis is taken from accounting data:

• company balance sheet;
• income statement.

The balance sheet reflects, on the one hand, the existing assets of the company, on the other hand, the sources of their financing. The indicators are reflected in monetary terms and can be classified according to their composition.

The income statement shows the totals of the company's operation for the reporting period, as well as the order of profit or loss.

Varieties

Main species can be presented by category groups:

• absolute - the company is completely independent of external creditors, since it has a sufficient amount of its own funds;
• normal is the most favorable type of sustainability, because in addition to equity, the company uses long-term loans for expansion and development;
• unstable - the company's solvency is broken, but it is possible to restore the balance by increasing equity capital, reducing receivables, as well as byincrease in working capital;
• crisis - the company is on the verge of bankruptcy. A complete exit from this state will mean a decrease in the number of reserves and an increase in the sources of their formation.

Main odds

The balance sheet financial stability ratio is an indicator that evaluates the structural share of own funds in the total amount of all company funds. It reflects the quotient from dividing own funds by the total balance for a certain period. A high level of the ratio indicates the financial stability and independence of the company from external creditors. For this indicator, the minimum allowable level is 50-60%.

Financial stability ratio and calculation formula

After considering the issues of general understanding of this indicator, let's move on to the study of methods for its determination.

The coefficient under study is calculated using the formula:

KFU=(line 1300 + line 1400) / line 1700.

The formula in another form will look like this:

KFU=(SK + DK) / P, where KFU - financial stability ratio;

SK - equity, including available reserves;

DK - long-term loans and borrowings (obligations), the maturity of which is more than 1 year;

P - total liabilities (otherwise - balance sheet).

Normative

The normative coefficient of financial stability is in the range from 0,8 to 0, 9.

A ratio value greater than 0.9 indicates the financial independence of the company. In addition, this value indicates that the analyzed company will be characterized by an increase in solvency indicators in a long period of time.

If the studied financial stability ratio is below the norm of 0.75, then this situation should be a very alarming signal for the company. It may indicate the risk of permanent insolvency of the company, as well as its financial dependence on creditors.

Other indicators of financial stability

You can consider a number of other coefficients:

• The debt capital concentration ratio is defined as the difference between the value of "1" and the autonomy ratio. Firms with high net worth attract lenders more because investors believe they can recoup their investment from the firm's own sources.
• The financial dependency ratio is the opposite of the autonomy ratio.
• The capital maneuverability ratio describes the part of it that is aimed at conducting current activities. Its growth is welcome: the higher, the better the financial stability.
• The ratio of borrowed and own funds. Shows which part of the company's funds is larger: own or borrowed. A coefficient higher than 1 in a situation where the company is dependent on the company's loans.
• Current asset coverage ratioown working capital. The optimal value must be equal to or greater than 0, 1.

Directions for improving financial stability

In market conditions, the key to survival and creating a stable financial system of the company is its stability. Sustainability refers to the position of a company's resources in which it is possible to freely maneuver money, use it effectively, ensure a continuous production process and sales of goods, and also take into account the costs of expanding and updating the business. The financial stability ratio and its calculation formula affect the stability of the company's system.

Financial stability is due to both the stability of the economic environment in which the company operates, and the results of its activities, adaptation to changes in environmental factors.

Opportunities to strengthen the company's finances may include the following areas:

• increasing the authorized capital by issuing shares and accumulating retained earnings (applicable if the company does not incur uncovered losses during the analyzed period, otherwise it cannot give concrete results);
• developing a smart fundraising strategy;
• revision of stocks; Overstocking negatively impacts the sustainability of the company, excess inventory must be disposed of;

• increase in the volume of work on the collection of receivables, which leads to an increase in the share of the company's cash, accelerate the turnover of capital;
• acceleration of receivables turnover and, as a result, more rhythmic receipt of funds from debtors;
• increasing the "margin of safety" in terms of solvency indicators, etc.

Consequently, in order to improve the financial stability of an enterprise, it is necessary to find reserves to increase the rate of accumulation of own sources, providing material circulating assets with resources in personal possession.

Conclusion

Research on the category of firm stability in finance is a very important analysis. The stability of the company can only be spoken of in a situation where its income exceeds its expenditure, which is revealed in the process of analyzing the financial stability ratios. In the case when a company freely disposes of cash, if the process of production and sale of products is established, then such a company is likely to be classified as normal stability. At the same time, the values of the financial stability ratios will comply with the standards.

Knowing the current state of the financial stability of the company will help to draw up a financial and business plan for the forecast year. In addition, the company will be able to competently build its credit policy in accordance with the goals and the current financial situation.