Unit: - V Ratio Analysis

Financial statements aim at providing financial information about a business enterprise to meet the information needs of the decision-makers. Financial statements prepared by a business enterprise in the corporate sector are published and are available to the decision-makers. These statements provide financial data which require analysis, comparison and interpretation for taking decision by the external as well as internal users of accounting information. The act is termed as financial statement analysis. Meaning of Accounting Ratios As stated earlier, accounting ratios are an important tool of financial statement analysis. A ratio is a mathematical number calculated as a reference to relationship of two or more numbers and can be expressed as a fraction, proportion, percentage, and a number of times.
Objectives of Ratio Analysis:-

1. To know the areas of the business which need more attention? 2. To know about the potential areas which can be improved with the effort in the desired direction? 3. To provide a deeper analysis of the profitability, liquidity, solvency and efficiency levels in the business; 4. To provide information for making cross sectional analysis by comparing the performance with the best industry standards; 5. To provide information derived from financial statements useful for making projections and estimates for the future.

Classification of Ratio by Statement

Balance Sheet Based

1. Current Ratio 2. Liquid Ratio 3. Absolute Liquid Ratio 4. Debt Equity Ratio 5. Proprietary Ratio 6. Capital Gearing Ratio 7. Assets-Proprietorship Ratio

Profit & Loss Account

1. Gross Profit Ratio 2. Net Profit Ratio 3. Operating Profit Ratio

Profit and Loss Account & Balance Sheet

1. Stock Turnover Ratio 2. Debtors Turnover Ratio 3. Creditors Turnover Ratio 4. Fixed Assets Turnover Ratio

1. Profit sale of Assets or Investment. 1. Office & Administrative

5. Return on Equity 6. Return on Shareholders fund

2. Expenses. - (Stock+ Prepaid Interest Receive. 1. Loss = Current Assets on sale Assets or Prepaid by Mr. Rupesh Dahake Page 1 Liquid/Quick Non-Operating Operating 7. Return on Capital Expenses) investment. 2. Financial Expenses

Current Assets
1. 2. 3. 4. Cash in Hand Cash at Bank Sundry Debtors Bills Receivable

Current Liability
1. Sundry Creditors (Account Payable) 2. Bills Payable

3. Outstanding and Accrued Expenses 4. Income Tax Payable

5. Marketable Securities 6. Other Short Term Investment

5. Short-Term Advances

Liquidity Ratios:Current Assets 1. CurrentCurrent Ratio= Liabilities

Liquid Assets (Current Assets Stock & Prepaid 2. Quick Ratio/Acid Test Ratio/Liquid Ratio = Expenses) Current Liabilities

Absolute Liquid Assets (Marketable Absolute Liquid Ratio = Securities+Cash+Bank) Liquid Liabilities (Current Liabilities Bank

Ex.1. you are given the following information:Cash in hand Rs.10000, Cash at bank Rs.15000, Sundry Debtors Rs.75000, Stock Rs. 60000, Bills Payable Rs. 25000, Bills Receivable Rs. 30000, Sundry Creditors Rs. 40000, Outstanding Expenses Rs. 20000, Prepaid Exp. Rs.10000, Dividend Payable Rs.15000, Land Rs.200000, Goodwill Rs.100000. Calculate: a) Current Ratio b) Liquid/Quick Ratio c) Absolute Liquidity Ratio

Prepaid by Mr. Rupesh Dahake

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PROFITABILITY RATIO
Gross Profit 1.Gross Profit Ratio = Sales 2.Net Profit Ratio = Net Profit Sales X 100 X

3.Operating Ratio =

Cost of Goods Sold + Operating Expenses Sales Or

= 100 Net Profit Ratio

Net Profit + Non-Operating Exp Non4.Operating Profit Ratio = Operating Exp. Sales Or =100 Operating Ratio

Related 5.Expanses Ratio = Expenses Sales 6.Return on Investment Ratio =

Net Profit (after interest and tax) Shareholders Fund or Investment (Equity Share + Preference Share + Reserve & Surplus Accumulated Losses)

Net Profit (after interest and tax) Gross Capital Employed 7.Return on Capital Employed = (Fixed Assets + Current Assets)

Ex.1 Calculate Gross Profit Ratio, Operating Ratio, Operating Profit Ratio, Net Profit Ratio, Stock Turnover Ratio.

Prepaid by Mr. Rupesh Dahake

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Trading and Profit and Loss Account of Rajesh & Co. for the Year 31st Dec 2011 Particular To Opening Stock To Purchases To Wages To Gross Profit c/d Amt 60000 27500 0 25000 11500 0 47500 0 Particular By Sales By closing Stock Amt 40000 0 75000

Ex.2

To To To To To

Administrative Exp 45000 By Gross Profit b/d Selling & Distribution Exp 10000 By Interest on Investment Office Exp. 5000 Non-Operating Exp. 15000 Net Profit 50000 Trading and Profit and Loss Account of Ramesh & Co. for the 12500 Year 31st Dec 2011 0 Amt 10000 60000 5000 50000 1250 00 15000 5000 5000 1000 34000 6000 0 Balance Sheet As on 31 st Dec 2011 Liabilities Amt 15000 3000 12000 20000 5000 Assets Cash in Hand Cash at Bank Marketable Securities Inventories Sundry Debtors Prepaid Expenses Land & Building 5500 0 By Gross Profit b/d By Interest on Investment By Profit on sale of assets By Dividen Received Particular By Sales By closing Stock

47500 0 11500 0 10000

12500 0 Amt 11000 0 15000

Particualr To Opening Stock To Purchases To Wages To Gross Profit c/d

12500 0 50000 5000 1000 4000

To Administrative Exp To Selling & Distribution Exp To Office Exp. To Loss on sale of Assets To Net Profit

60000

Amt 2000 3000 5000 15000 6000 4000 20000 55000

Share Capital Reserves Debenture Current Liabilities Profit and Loss A/c

Ex.3 The following is the Balance Sheet of M/s Sharma Ltd. For the year ending Dec.31 2009

Balance Sheet As on 31 st Dec 2011

Liabilities Equity Share Capital Preference Share Capital Prepaid by Mr. Rupesh Dahake Amt Assets 200000 Goodwill 200000 Building Amt 150000 200000 Page 4

Reserves Profit and Loss A/c Debenture Secured Loans Creditors Provision for Tax Bills Payable

40000 80000 100000 100000 80000 50000 40000

Machinery Stock Sundry Debtors Bills Receivables Cash At Bank Preliminary Exp.

250000 80000 60000 40000 50000 60000

89000 0

89000 0

You are required to calculate: 1. Current Ratio Profit Ratio 2. Liquid Ratio Ratio 3. Absolute Ratio 6. Net

7. Stock Turn

Turnover Ratio:Cost of goods 1. Stock Turnover Ratio = sold Average Stock i. Average Stock = Opening Stock + Closing Stock 2

Net Credit Sales 2. Debtors Turnover Ratio = Average Receivables

I.

Opening Receivable + Closing Receivable Average Accounts Receivable = 2 Debt Collection Period Ratio =

II.

Net Credit Sales 3. Creditors Turnover Ratio =Average Receivables Prepaid by Mr. Rupesh Dahake

Opening Payable + Closing Payable

Months
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i. ii.

Average Accounts Payable = Months Average Payment Period Ratio = or Days in a year Creditor Turnover

Net Sales 4. Working Capital Turnover Ratio =Working Capital (Current Assets Current

5. Fixed Assets Turnover Ratio Cost of Goods Sold = Total Fixed Assets 6. Capital Turnover Ratio = Cost of Goods Sold Shareholders Funds

Solvency Ratios:-

Outsiders Funds 1. Debt Equity Ratio = Shareholders Funds Shareholders Funds 2. Proprietary Ratio = Total Assets

Equity Share Capital (Equity share Capital + Reserves and Surplus) 3. Capital Gearing Ratio = Fixed Interest Bearing Funds (Debenture + Preference share Capital + other long term Loans)

Ex. Given- Gross Profit Ratio=25%, Net Profit Ratio=12% , Stock Turnover Ratio=10 Times, Sales =Rs.21600, What more information you can derive from the above?

Ex. The following information is supplied to you for the year ending 31st Dec 2011. Prepaid by Mr. Rupesh Dahake Page 6

Gross Profit Ratio = 20% EPS =Rs.2 No. of Shares (Rs.10) =25000 Profit =25 % Current Ratio = 3:1 Quick Ratio = 1.5:1 Quick Assets = Rs.30000 Operating Ratio = 90 % Closing stock is less by Rs. 6000 than opening Stock.

Prepaid by Mr. Rupesh Dahake

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