Financial Ratios

Local Government Operational Guidelines - Number 18 May 2007

www.dlgrd.wa.gov.au

Financial Ratios
1.

Introduction

3.

Legislation

1.

This guideline is intended to provide a clear explanation

of each ratio required to be included in the Annual
Financial Statements under Section 6.4(2) of the Local
Government Act 1995 and Regulation 50 of the Local
Government (Financial Management) Regulations 1996.

8.

Financial ratios are included in the notes to the annual

financial report. These ratios provide users with key
indicators of the financial performance of a local
government and include comparisons with prior years.

9.

Under regulation 50 of the Local Government (Financial

Management) Regulations 1996, the annual financial
report is to include, for the financial year covered by
the annual financial report and the two preceding
financial years, the following:

2.

An explanation of the purpose of each ratio is included

to ensure staff and elected members are able to
interpret what the ratio result means for the local
government.

3.

Definitions are included to fully describe what is meant

by the terms used in the ratios.

2.

Purpose

4.

The guideline is designed to assist local government

officers in preparing financial ratios, and provide
elected members with an understanding of each ratio.

5.

6.

7.

Financial ratios are designed to provide users of annual

financial statements with a clearer interpretation of the
performance and financial results of a local government
and a comparison of trends over a number of years.
On occasions, there have been inconsistencies in the
calculation and interpretation of financial ratios. If
information is to be meaningful, it should be prepared
accurately and consistently. Ratios may be disclosed as
a percentage or a factor of 1.
These indicators provide a short term measure of the
financial sustainability of local governments and
compliments the national criteria endorsed by the Local
Government and Planning Ministers Council. They
provide for a comprehensive tool for monitoring the
financial sustainability of local governments.

p02.

10.

(a)

current ratio;

(b)

debt ratio;

(c)

debt service ratio;

(d)

rate coverage ratio;

(e)

outstanding rates ratio;

(f)

gross debt to revenue ratio;

(g)

untied cash to trade creditors ratio; and

(h)

gross debt to economically realisable assets ratio.

This guideline analyses each of these ratios according

to the information they provide. The ratios are
classified under the following headings:
(i)

liquidity ratios;

(ii)

debt ratios;

(iii) coverage ratios;

(iv)

effectiveness ratios;.

(v)

financial position ratio.

4.

Ratios

4.1

Liquidity Ratios

11.

Liquidity ratios provide information on the ability of a local government to meet its short-term financial obligations out of
unrestricted current assets. These include the Current Ratio and the Untied Cash to Trade Creditors Ratio. They are
explained as follows:
CURRENT RATIO
Current Ratio =

Current Assets LESS Restricted Current Assets LESS Self Supporting Loans
Current Liabilities LESS Current Liabilities Associated with Restricted Assets LESS
Long Term Borrowings

Purpose:

This is a modified commercial ratio designed to focus on the liquidity position of a local
government that has arisen from past years transactions. Loan borrowings are excluded as
they focus on future transactions that fall due in the next twelve months recognised as a
current liability.
A ratio greater than 1 is preferred. A ratio less than 1 may arise from a budget deficit from the
past year, a Council decision to operate an overdraft to accommodate some additional outlays
or a decision to fund leave entitlements from next years revenues.

Definitions:
Current Assets

Total Current Assets as per the Balance Sheet and as defined in Australian Accounting Standards.

Current Liabilities

Total Current Liabilities as per the Balance Sheet and as defined in Australian Accounting Standards.

Restricted Current
Assets

Restricted Reserves, Unspent Grants, Other Restricted Cash identified by the local government.

Liabilities Associated Commonly this is the Cash Backed Reserve for Long Service Leave, Annual Leave and other
with Restricted Assets Employee Entitlements. Ideally, the Reserve Amount should be the same as the Provision
Amount but this is rarely the case.
(a) Only make a deduction if there is an Entitlement Reserve.
(b) If the Reserve amount is greater than the Provision amount, only deduct the amount of
the liability. If the Provision amount is greater than the Reserve amount, only deduct the
amount of the cash Reserve.
(c) If the Reserve is for Long Service Leave only, then only refer to the Provision for Long
Service Leave and not the total of all the Provisions.
Self Supporting
Loans (SSL)

p03.

Self Supporting Loans represent loans taken out by a local government on behalf of a
community group or local organisation.

UNTIED CASH TO TRADE CREDITORS RATIO

Untied Cash to Trade = Untied Cash (Unrestricted Cash)
Creditors Ratio
Unpaid Trade Creditors
Purpose:

The ratio provides an indication of whether a local government has sufficient cash to pay its
trade creditors in accordance with normal trading terms and conditions.
A ratio greater than one is preferred and indicates there is sufficient unrestricted cash
available to pay its trade creditors. A ratio less than one indicates a local government has
insufficient cash to pay its trade creditors. This may have arisen from a poor budget
performance in the past year or inaction on collecting accounts receivable.

Definitions:
Untied Cash/
Unrestricted Cash

Cash that has not been assigned for a specific purpose, use
or commitment.

Untied Cash

Unrestricted Municipal Cash.

Unpaid Trade
Creditors

Use the Creditor amount only; do not include bonds, deposits or any other payables.

4.2

Debt Ratios

12.

Debt ratios measure the ability of a local government to service debt and its capacity to borrow. These include the Debt
Service Ratio, Gross Debt to Revenue Ratio, and Gross Debt to Economically Realisable Assets Ratio. Details for each are
as follows:

DEBT SERVICE RATIO

Debt Service Ratio = Debt Service Cost (principal & interest on loans)
Available Operating Revenue
Purpose:

This ratio measures a local governments ability to service debt (principal and interest) out
of its available Available Operating Revenue.
The lower the ratio the greater the ability of a local government to service debt. A ratio less
than 0.1:1 is desirable.

Definitions:
Debt Service Cost
Available Operating
Revenue

p04.

Total of Principal and Interest paid during current financial year.

This means the operating revenue (a) plus any contributions towards the repayment of money borrowed which have not been
included in the operating revenue; and
(b) minus specific purpose grants, contributions and donations of a capital nature.

GROSS DEBT TO REVENUE RATIO

Gross Debt to =
Revenue Ratio

Total Borrowings and Utilised Overdraft

Total Revenue

Purpose:

The ratio is a measure of a local governments ability to service debt in any given year out of
total revenue.
The lower the percentage the greater is the financial ability of a local government to service
borrowings out of total revenue each year. A ratio less than 0.6:1 is desirable and indicates that
a local government has sufficient revenue to service its external borrowings

Definitions:
Total Revenue

Total of Operating Revenue as per Statement or Nature and Type Statement LESS grants,
contributions and donations towards the development of assets.

GROSS DEBT TO ECONOMICALLY REALISABLE ASSETS RATIO

Gross Debt to =
Economically
Realisable
Assets Ratio

Total Borrowings and Utilised Overdraft

Total Assets LESS Infrastructure Assets

Purpose:

The ratio provides a measure of whether a local government has sufficient realisable assets to
cover its total borrowings. This ratio measures the ability of a local government to retire debt
from readily realisable assets.
A lower ratio is desirable and indicates a local government has sufficient realisable assets to
cover its total borrowings. A ratio less than 0.3:1 is desirable.

Definitions:
Gross Debt

Total Borrowings and Utilised Overdraft.

Infrastructure
Assets

All tangible assets that are not economically realisable. Includes roads, bridges, drains and
recreational facilities.

4.3

Coverage Ratio

13.

The ratio is a measure of a local governments dependence on rate revenue to fund its operations. The higher the ratio,
the less dependent a local government is on grants and external sources to fund its operations. The ratio will vary
between local governments, and comparisons should be made over a number of periods to identify any significant trends.
RATES COVERAGE RATIO
Rate Coverage Ratio = Net Rate Revenue
Operating Revenue
Purpose:
Definitions:
Net Rate Revenue
Operating Revenue

p05.

Dependency on rates to fund operations.

Total Rate Revenue less discount and concessions, and money paid in lieu of rates.
PLUS interest on late payments, interest and charges on instalments.
Total of Operating Revenue as per Statement or Nature and Type Statement.

4.4

Effectiveness Ratio

14.

This ratio measures the effectiveness of a local government council policies and financial practices and is evidenced by the
Outstanding Rates Ratio.
OUTSTANDING RATES RATIO
Outstanding Rates = Total Rates Outstanding
Ratio
Total Rates Collectable
Purpose:

The ratio measures the effectiveness of a local government with the collection of its rates.
A lower ratio is desirable and indicates that a local government is collecting its outstanding
rates effectively to improve its cash position and cash flow A ratio less than 0.05:1 is desirable.

Definitions:
Rates Outstanding
Rates Collectable

Unpaid Rates that are collectable (excluding pension deferrals).

Total Rate Revenue excluding discounts, concessions and deferrals and money paid in lieu of
rates PLUS interest on late payments, interest and charges on instalments.

4.5

Financial Position Ratio

15.

The financial position ratio examines the strength of a local government based on the information reported in the financial
position statement (balance sheet).
DEBT RATIO
Debt Ratio =

Total Liabilities (as per Balance Sheet)

Total Assets (as per Balance Sheet)

Purpose:

The ratio is a measure of total liabilities to total assets or alternatively the number of times
total liabilities are covered by the total assets of a local government.
The lower the ratio of total liabilities to total assets the stronger is the financial position of a
local government and its ability to cover its total liabilities.

Definitions:
Total Liabilities
Total Assets

p06.

Total of Current and Non-Current Liabilities as per balance sheet and as defined in the
Australian Accounting Standards.
Total of Current and Non-Current Assets as per balance sheet and as defined in the Australian
Accounting Standards.

5.

Example

The following example sets out the balance sheet and the various ratios for a local government.
Town of Highlands
Balance Sheet as at 30 June 2006
2006
$000

2005
$000

1,529
218
15
1,762

720
65
6
791

Non-Current Assets
Other Receivables
Property, Plant and Equipment
Infrastructure
TOTAL NON-CURRENT ASSETS

40
4,348
26,598
30,986

15
4,338
26,857
31,210

Total Assets

32,748

32,001

207
83
137
427

126
82
103
311

Non-Current Liabilities
Long Term Borrowings
Provisions
TOTAL NON-CURRENT LIABILITIES

187
88
275

275
56
331

Total Liabilities

702

642

Net Assets

32,046

31,359

Equity
Retained Surplus
Reserves Cash Backed
Reserves Asset Revaluation
Total Equity

28,824
617
2,605
32,046

28,224
530
2,605
31,359

Note
Current Assets
Cash and Cash Equivalents
Trade and Other Receivables
Inventories
TOTAL CURRENT ASSETS

Current Liabilities
Trade and Other Payables
Current Portion of Long Term Borrowings
Provisions
TOTAL CURRENT LIABILITIES

p07.

8
10

Extracts of Notes to the

Financial Statements
2006
$000
Note 3: Cash and Cash Equivalents
- Unrestricted
- Restricted Reserves
- Restricted Unspent Grants

702
617
210
1,529

Note 8: Trade and Other Payables

- Trade Creditors
- Accrued Expenses
- Other Payables

152
48
7
207

Note 10: Provisions (cash backed)

Current:
- Provision for Annual Leave
- Provision for Long Service Leave

a) Current Ratio for 2006

83
54
137

= Current Assets LESS Restricted Current Assets LESS SSL

Current Liabilities LESS Current Liabilities Associated
with Restricted Assets LESS Long Term Borrowings

Current Assets = Total Current Assets as per balance sheet = 1762

Restricted Current Assets = Restricted Cash Reserves plus Restricted Unspent Grants as per note 3 = 617+210
Current Liabilities = Total Current Liabilities as per balance sheet = 427
Current Liabilities Associated with Restricted Assets = Provisions (cash backed) as per note 10 = 137
Self Supporting Loans (SSL) = Nil
Current Portion of Long
Term Borrowings = 83
= 1,762 (617+210)
427 137 - 83

p08.

= 935
207

= 4.52 : 1

b) Untied Cash to Trade

Creditors Ratio for 2006

= Untied Cash (Unrestricted Cash)

Unpaid Trade Creditors

Untied Cash (Unrestricted Cash) = Total cash less committed cash as per note 3
= 1529 (617+210)
Unpaid Trade Creditors = As per note 8 = 152
= 1,529 (617+210)
152
c) Debt Ratio for 2006

= 702
152

= 4.62 : 1

= Total Liabilities (as per balance sheet)

Total Assets (as per balance sheet)

Total Liabilities =Total of Current and Non-Current Liabilities as per balance sheet = 702
Total Assets =Total of Current and Non-Current Assets as per balance sheet = 32,748
= 702
32,748
d) Debt Service Ratio for 2006

= 0.02 : 1

= Debt Service Costs (principal & interest on loans)

Available Operating Revenue
= 289
5650

e) Gross Debt to Revenue

Ratio for 2006

= 0.05 : 1

= Total Borrowings and Utilised Overdraft

Total Revenue
= 83 + 187
2,902

f) Gross Debt to Economically

Realisable Asset Ratio for 2006

= 0.09 : 1

= Total Borrowings and Utilised Overdraft

Total Assets LESS Infrastructure Assets
= 83 + 187
32,748-26,598

= 0.04 : 1

= Net Rate Revenue

Operating Revenue

g) Rates Coverage Ratio for 2006

= 1,012
2,902

= 0.35 : 1
= Total Rates Outstanding
Total Rates Collectible

h) Outstanding Rates Ratio for 2006

=6
1,012

p09.

= 270
6,150

= 0.01 : 1

ABOUT THE GUIDELINE SERIES

www.dlgrd.wa.gov.au
FURTHER INFORMATION
For more information about this and other
guidelines, contact the Local Government Support
and Development Branch of the Department of
Local Government and Regional Development on:

These guidelines are also available on the

Departments website at www.dlgrd.wa.gov.au

Financial Ratios

Tel: (08) 9217 1500

Fax: (08) 9217 1555
Freecall: 1800 620 511 (Country Only)

This document and others in the series are intended as

a guide to good practice and should not be taken as a
compliance requirement. The content is based on
Departmental officers knowledge, understanding,
observation of, and appropriate consultation on
contemporary good practice in local government.
Guidelines may also involve the Departments views on
the intent and interpretation of relevant legislation.
All guidelines are subject to review, amendment and
re-publishing as required. Therefore, comments on any
aspect of the guideline are welcome. Advice of methods
of improvement in the area of the guideline topic that
can be reported to other local governments will be
especially beneficial.