Financial Ratios for SaaS Companies

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According to Heisinger & Hoyle (n.d.), profitability, short-term and long-term liquidity, and market valuation are all measured using ratio analysis. Most profitability ratios can be measured by service companies since they are based on sales, earnings, assets, liabilities, and owner’s equity, all of which can be seen on the income statement and balance sheet (Heisinger & Hoyle, n.d.). For a service company, the gross margin ratio is a redundant ratio since the gross margin will always be equal to sales without any cost of products sold, providing a value of 100% according to the gross margin ratio calculation (Waingakar, 2022).

Financial Ratios That Are Applicable To SaaS Companies

Tarver (2021) stated that technology-based companies such as software houses are distinct in that they frequently hold little to no inventory; they are frequently not profitable and may not generate income. Furthermore, many technological businesses raise enormous amounts of venture money or issue substantial amounts of debt to support research and development.

Therefore, in my opinion, the financial ratios that might fit my company are:

1. Liquidity ratios: According to Tarver (2021), liquidity ratios indicate a company’s capacity to satisfy short-term obligations. Because many technology-based companies, such as eftax Co., Ltd., do not produce a profit or generate revenue, it is critical to assess a technology company’s ability to satisfy its short-term financial commitments.
2. Current Ratio: This is the most often used liquidity ratio for determining a company’s capacity to meet its short-term financial obligations. It is also the most lenient of the liquidity ratios. In the technology industry, a high current ratio is significant since the company must generally fund all of its activities using current assets, such as funds received from investors (Tarver, 2021).
3. Cash Ratio: Tarver (2021) emphasizes that the cash ratio is the most cautious of all liquidity measures, making it the most difficult to assess a company’s ability to satisfy its short-term obligations. I think this is the most critical liquidity ratio for a technology company like my company because the corporation usually only has the cash to satisfy its current commitments and no other current assets, such as inventory.
4. Debt to Equity Ratio: The debt-to-equity ratio is critical for analyzing technological businesses. This is due to the fact that technology firms make big investments in other technology firms and accept investments and debt from other organizations to support product development (Tarver, 2021). I think this ratio is also applicable to eftax Co., Ltd. because when a technological business decides to buy another company or fund critical R&D, it typically does so through outside investments or debt issuance. When a stakeholder evaluates a technological business, it is critical to consider the amount of debt issued by the company. If this ratio is excessively high, the corporation may become bankrupt before earning a profit and repaying the loan.

Conclusion

To summarize, These ratios are critical for stakeholders making financial choices. Because the ratios utilized vary by industry, it is critical that we select the proper ones.

References

Heisinger, K., & Hoyle, J. B. (n.d.). Accounting for Managers. https://2012books.lardbucket.org/books/accounting-for-managers/index.html

Tarver, E. (2021, May 31). Key financial ratios to analyze tech companies. Investopedia. Retrieved August 2, 2022, from https://www.investopedia.com/articles/active-trading/082615/key-financial-ratios-analyze-tech-companies.asp

Waingakar, R. (2022, June 18). Financial ratios. WallStreetMojo. Retrieved August 2, 2022, from https://www.wallstreetmojo.com/financial-ratios

Note:
This article is written based on University of The People Managerial Accounting (BUS 5110) written assignment by Fristy Tania in July 2022