Page 70 - Bruce Ellig - The Complete Guide to Executive Compensation (2007)

56 The Complete Guide to Executive Compensation

• Gross margin This is income after subtracting the direct costs of goods sold
($37,459,700 in Table 2-1) from net sales ($101,546,400 in Table 2-1). This definition
is often used for subdivisions of an organization (e.g., a manufacturing division on-site)
where other expense deductions do not apply (e.g., selling expenses). In Table 2-1, this
is $64,086,700.
• Gross margin ratio This is net sales minus cost of goods sold, with the remainder
divided by net sales. In the example, this is $101,546,400 (Table 2-1) minus
$37,459,700 (also from Table 2-1) divided by $101,546,400, or a ratio of 0.63 to 1.
• Income Any of the previous definitions of income could be used to measure
absolute dollar increase. They include gross margin, EBITDA, EBIT, and net income.
• Income after taxes See net income.

• Income before taxes See pretax earnings.
• Inventory This is the cost of goods produced or purchased but not sold. In Table
2-6, this is $14,095,300 and consists of finished goods ($6,576,400), work in process
($4,981,700), and raw materials and supplies ($2,537,200).
• Inventory sales ratio This is average inventories of $13,100,700 (not the year-
ending figure of $14,095,300) from Table 2-6 divided into net sales ($101,546,400
from Table 2-1), or 7.8. While no one wants to have a backlog of unfilled sales orders
because of a lack of finished inventory, neither does one want to have a lot of capital
tied up in inventories. This ratio could be used as a corporate measure but may be
even more important at a divisional level where it is better controlled.
• Inventory to working capital ratio This is inventory divided by short-term assets
minus short-term liabilities. In the example, this is $14,095,300 (Table 2-6) divided by
$79,301,500 (Table 2-6) minus $23,683,100 (Table 2-7), or $55,618,400, indicating an
inventory to working capital ratio of 0.25 to 1.
• Investor capital to sales ratio This is shareholder equity divided by sales. In the
example, this is $137,077,400 (Table 2-8) divided by $101,546,400 (Table 2-1), indi-
cating a ratio of sales to shareholder equity of 1.35 to 1.

• Investor capital to total liabilities ratio This is shareholder equity divided by
total liabilities. In the example, $137,077,400 (Table 2-8) is divided by $193,920,500
(Table 2-7), indicating a ratio of 0.71 shareholder equity to 1 for total liability.

• Liquidity This is the extent to which short-term assets ($79,301,500 in Table 2-6)
exceed short-term liabilities ($23,683,100 in Table 2-7) for the company, or
$55,618,400 in this example. This is also called working capital.
• Long-term debt ratio This is long-term debt ($126,763,900in Table 2-6) divided
into shareholder equity ($137,074,400, Table 2-5) plus long-term debt, or 2.1 (to 1).
To the extent this ratio is high, it suggests a highly debt-leveraged company that may
have borrowing difficulty during a downturn.

• Market to book ratio This is the price of the common stock divided by the com-
pany’s book value per share. In the example, with a market price of $10 a share and
book value of $8.99, the ratio is 1.11 to 1.0.