Dictionary of Banking Terms: balance sheet ratios
balance sheet ratios
- ratios used in examining the financial condition, and changes in financial position, of any company, based on data reported in the balance sheet. Certain ratios are particularly applicable to banks. The most important are the capital ratio (measuring the ratio of equity capital to total assets) and liquidity ratios (measuring a bank's ability to cover deposit withdrawals and pay out funds to meet the credit needs of its borrowers). Other useful ratios are the loan-to-deposit ratio (total loans divided by total deposits) the charge-off ratio (net charge-offs as a percentage of total loans), the loan loss reserve ratio ( loan loss reserves for potential bad loans as a percentage of total loans), and the ratio of nonperforming asset to total loans. See also Net Interest Margin (NIM); Return On Assets (ROA); Return On Equity (ROE).
- accounting ratios used by bank credit officers in evaluating creditworthiness of borrowers. The most widely used are: the acid-test ratio or quick ratio (short-term assets divided by current liabilities); the current ratio (current assets divided by current liabilities); and the debt coverage ratio (working capital divided by long-term debt). Financial ratios can be measured against ratios in prior years, or industry averages, for quick, easy comparison. Key performance ratios, such as the leverage ratio (long-term debt as a percentage of shareholder net worth), are frequently used in pricing commercial loans. A loan might have an interest spread over a base rate, for example, the bank prime rate plus 25 basis points if financial leverage is kept at, or below, a certain level. See also ratio analysis.
