Solvency Ratios

Solvency ratios are financial metrics used to evaluate a company’s ability to meet its long-term obligations and sustain operations over time. These ratios provide insight into a firm’s financial health by comparing assets, liabilities, and earnings to debt levels. A strong solvency position indicates that a company can cover its debts and continue operations without financial strain, while weak solvency may signal potential bankruptcy risks. Different solvency ratios focus on liquidity, profitability, and debt coverage, helping investors and creditors assess the company’s financial stability.

The definition of these ratios are:

Current Ratio
Current Assets / Current Liabilities
Measures a company’s ability to pay short-term obligations by comparing current assets to current liabilities, indicating short-term financial health.

Quick Ratio
(Cash + Marketable Securities + Net Accounts Receivable) / Current Liabilities
A more stringent measure of liquidity than the current ratio, it excludes inventory and focuses on assets that can be quickly converted to cash to cover liabilities.

Interest Coverage
(Net Income + Tax Expense + Interest Expense) / Interest Expense
Assesses a company’s ability to meet interest payments on outstanding debt by comparing earnings before interest and taxes (EBIT) to interest expenses.

Accounts Payable Turnover
Cost of Goods Sold / Average Accounts Payable
Measures how quickly a company pays off its suppliers by comparing total supplier purchases to average accounts payable, reflecting payment efficiency.