Financial Ratios Part 18 of 21: Operating-Expense ratio

How much business or farm income is being used to cover expenses?

Financial ratios & indicators can assist in determining the health of a business. There is a minimum of 21 different ratios and indicators that can be looked at by many financial institutions. You cannot look at a single ratio and determine the overall health of a business or farming operation. Multiple ratios and indicators must be used along with other information to determine the total and overall health of a farming operation and business. This series of articles will look at 21 commonly used ratios and indicators.

Operating-Expense ratio is a measurement of financial efficiency and is determined based on information derived from a business or farm operation’s financial statements specifically using the financials that determine gross farm income. Financial efficiency refers to how effectively a business or farm is able to generate income. Looking at the financial efficiency of a business or farm assists the owner(s) in determining how the various aspects of the business such as production, financing, marketing, etc. effects the gross income of the business.

Operating-Expense ratio is measured as a percentage, the lower the percentage the better the situation is for the business or farm. The Operating-Expense ratio shows the proportion of income that is being used to cover operating expenses not including the principal and interest of loans. The lower the percentages the better position a farm or business is. A number less than 60% means the business or farm is on strong footing while anything higher than 80% means the farm or business is going to be more easily vulnerable to changes in markets.

When you add the following financial ratios they should total 100%:

  • Operating-Expense Ratio
  • Depreciation-Expense Ratio
  • Interest-Expense Ratio
  • Net Income Ratio.

The following equation(s) will determine your Operating-Expense Ratio:

Operating-Expense Ratio = (Total operating expense not including interest – depreciation) / gross income

You can read the other articles in this series:
Part 1: The current ratio
Part 2: Working capital.
Part 3: Working capital to gross revenues
Part 4: Debt-to-asset ratio
Part 5: Equity-to-asset ratio
Part 6: Debt-to-equity ratio
Part 7: Net farm income
Part 8: Rate of return on assets
Part 9: Rate of return
Part 10: Operating profit margin
Part 11: The EBITDA measurement of profitability
Part 12: Operating profit margin
Part 13: Capital debt repayment margin
Part 14: Replacement margin
Part 15: Term debt coverage
Part 16: Replacement margin coverage ratio
Part 17: Asset turnover rate
Part 19: Depreciation-expense ratio
Part 20: Interest-expense ratio
Part 21: Net income ratio

 

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