Economics - Investment

Finance

[Name of the Professor]

08-09-2012Finance

The ratios that will be important for a small business owner will include the liquidity ratios, solvency ratios, profitability ratios and activity ratios. Under these ratios the ratio that will hold extreme importance will include liquidity ratios in the form of Current Ratio, Acid test ratio, cash ratio. Under activity ratios total asset turnover, receivables turnover and payables turnover will be of vital interest. Profitability ratios in the form of Net Profit margin and gross profit margin will be valuable (Jensen & Meckling, 1976).

When interpreting financial performance the ratios of importance for a larger firm would be more or less the same as for the smaller company. The only substantial exclusion comes in the form of solvency ratio, which comprises of the famous debt to equity. Since larger firms require more capital to finance its operations, a greater reliance on debt is being made. This is known as the leverage ratio. Debt financing provide firms with capital when they need most, cost of capital would be borne in the form interest payments.

Ownership structure won't be change, debt could be flexible a firm could finance long term and short term debt. Debt is considered to be cheaper than equity, because the firm requires a lot of capital to raise equity as the firm has to hire the services of an underwriter and have to issue a prospectus (Stiglitz & Weiss, 1981). Firms can issue their own bonds and commercial papers, which gives them adequate funds of capital other than the traditional Banking loans and Banking lines.

Stocks would be issued to grant ownership in the firm. If common stocks are issued then ownership claim would be provided to the common stock holders. On the flip side equity holders will earn profits and suffer losses when company ...