Sales rise from THB 100 million to THB 125 million, and net profit rises from THB 10.4 million to THB 12.4 million. Yet operating cash flow falls from THB 12.4 million to THB 11.4 million. If you had to pick one figure to say the business improved, which would it be?
No single ratio answers that. A sales lead may care about how much more work came in. A project lead wants to know whether the work was profitable. The person making payroll needs to know whether cash arrives before payday. They are looking at the same business through different responsibilities.
The series Reading Financial Ratios to Understand a Business uses a hypothetical company that sells equipment, installs software systems, and supports work after delivery. Every figure is invented to explain how to read statements. None is a customer result or an industry benchmark. The aim is to take better questions back to real work before putting formulas into a report.
Start with the decision you need to make
If the question is “Is the next project worth taking?”, sales growth alone is not enough. You need to know the related costs, hours beyond plan, and cash paid before the customer pays. If the question is “Can we pay suppliers next month?”, annual profit is too far removed. You need due dates and a cash receipt plan.
Financial ratios compress information into relationships: profit to sales, debt to equity, or receivables to credit sales, for example. A useful formula must answer a specific question. Otherwise the report gains numbers without telling the team what to investigate next.
| Question to answer | Relationship to examine | Supporting information to open |
|---|---|---|
| Did higher sales leave more profit? | Each profit level relative to sales | Job costs and the mix of revenue |
| Where is cash tied up? | Receivables, inventory, and payables relative to the relevant activity | Receivables aging, inventory age, and trade terms |
| Can we meet short-term payments? | Current assets, current liabilities, and cash flow | Receipt dates and payment due dates |
| What return does invested money produce? | Profit relative to assets, operating capital, or equity | Average capital base and financing sources |
Connect the three statements first
The income statement describes revenue and expenses over a period, such as all of year 2. The balance sheet shows resources and outstanding obligations at a point in time, such as the end of year 2. The cash-flow statement explains how cash changed during the period through operating, investing, and financing activities.
Some revenue may be recognized before cash is received. A receivable may be invoiced but uncollected. Equipment paid for this year may become depreciation over several years. We should not expect profit to equal cash paid and received during the same year.
Revenue, expenses, receipts, and payments
Assets, liabilities, and equity
If year-end cash rises, ask whether the increase came from sales, collecting receivables, borrowing, or new equity. Borrowed cash helps today's payments but brings future repayment. Connecting the statements keeps us from mistaking one cause for another.
Read a hypothetical company from five lines of data
This example company earns revenue from equipment, system installation, and support services. The following are 12-month annual figures in THB millions. Year 1 (Y1) and year 2 (Y2) use the same policies and reporting scope.
| Item | Year 1 | Year 2 |
|---|---|---|
| Revenue | 100.00 | 125.00 |
| Gross profit | 40.00 | 48.00 |
| Net profit | 10.40 | 12.40 |
| Operating cash flow | 12.40 | 11.40 |
| Total assets at year-end | 64.00 | 81.00 |
Revenue grows 25%, but gross profit does not rise at the same rate. With each year's sales reset to THB 100, the company formerly kept THB 40 of gross profit and then THB 38.40. Net profit as a share of sales falls from 10.40% to 9.92%, even though net profit in baht increases.
This is why a common-size statement helps. We need not immediately decide whether the change is good or bad; it points to a sharper question: How have costs and the sales mix changed as revenue rose? Falling operating cash flow separately calls for receivables, inventory, unbilled work, and payables. Margin alone cannot answer that.
Year 1
Year 2
Sales and profit rise, but operating cash falls
Full-year results, THB millions
Chart scale: 0 to THB 125 million
Revenue
Gross profit
Earnings before interest and tax (EBIT)
Net profit
Cash from operations (CFO)
Year-end asset base, THB millions
Chart scale: 0 to THB 100 million
Year-end balances, shown separately from full-year results
Total assets at year-end
The figures in a ratio must cover compatible periods
Suppose we ask how much sales the assets helped generate. Year 2 revenue is THB 125 million, with assets of THB 64 million at the start and THB 81 million at the end. Averaging those two points gives (64 + 81) ÷ 2 = THB 72.5 million in assets. Sales divided by average assets is about 1.72 times.
That 1.72 compares the year's sales with an average asset base. It does not say machines ran at full capacity 1.72 times or tell us how profitable the sales were. If the company makes a large investment late in the year or has strong seasonality, an opening-and-closing average may represent the year poorly. Monthly averages or more frequent data may be better.
Do not compare full-year revenue with a base from a different period without explaining the method. For example, dividing six months of sales by year-end assets and comparing that with another company's full-year turnover makes identical-looking formulas measure different periods.Before calculating, note whether both figures come from consolidated statements or both from separate-company statements, whether amounts are baht or millions, how many months they cover, and whether the denominator is a closing or average balance. A short note lets the next reader check what the figure means.
Compare with businesses that work in similar ways
A systems integrator may own few fixed assets but carry substantial employee time and work awaiting acceptance. A factory has machinery, raw materials, work in progress, and finished goods. An equipment seller may hold stock to deliver quickly. Each uses cash for different reasons.
Even within one industry, cost classification matters. One company puts delivery-team wages in cost of sales; another records some as operating expenses. Comparing gross profit without reading the policies can falsely suggest that one team delivers more cheaply when the cost sits on a different line.
A peer median or historical trend can flag a question, but no single number judges every company. More inventory could mean unsold goods or preparation for a long lead-time order. Open the detail to learn which explanation fits.
Check the items, owners, and documents behind the figures
For a software or systems integration team, revenue growth with a lower sales margin should lead to delivery hours, subcontractor costs, rework, and scope changes. Higher receivables should lead to invoices, due dates, and disputed items. The analysis should not stop at a red arrow in a report.
For a factory, cost questions may lead to raw-material prices, scrap, and machine downtime. Cash-cycle questions may lead to unused raw materials, stalled work in progress, and excess finished goods. Different owners use different documents to answer each.
If implementing Odoo, design the reporting number so it can be traced back to accounting entries, sales, purchases, inventory, and project work within the actual business scope. Agree on cost accounts, analytic entries, and project codes first. This article proposes a way to design the data; installing a module alone does not produce correctly interpreted ratios.
Before opening the next formula, write down one question
Choose a decision the business faces this month, such as “Does the additional installation work still earn the same margin?” Identify who must answer, which data they need, and what action the answer will change. If that cannot be written down yet, ten more ratios may not help.
Next, we start with each level of profit, moving from sales to net profit, and ask why a business can grow sales yet keep less profit per unit sold. We will use the same hypothetical company.
For more on reading statements and ratios, see CFA Institute, Financial Analysis Techniques The company, figures, SI work connections, and data-design examples in this article are hypothetical cases created for this series.
