RATIO ANALYSIS
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I. Liquidity Ratios: Reflect the firm’s ability to meet short-term short-term obligations.
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Sr.
No.
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Name of the Ratios
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Formula
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Usefulness
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1.
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Current Ratio
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Current Assets
= -----------------------
Current Liabilities
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It indicates the ability of the firm to meet its short-term obligations. Current Ratio should be 2:1.If more than this or less than this then have to check to whether position is satisfactory.
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2.
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Acid test Ratio
OR Quick Ratio
OR Liquidity Ratio
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Quick Assets
= ------------------------
Quick Liabilities
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As this ratio is concentrating on Cash, Marketable Securities & Receivables so providing sharper measure of liquidity than Current Ratio.
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3.
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Cash Ratio
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Cash + Marketable Securities
= ---------------------------------------
Current Liabilities
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The Cash ratio measures the absolute liquidity of the Business to meet the Current Liabilities.
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4.
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Interval Measure
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Current Assets – Inventory
= ---------------------------------------
Average daily operating Exp.
Average daily operating Exp. Means Cost of Goods sold Less
Depreciation & other non-cash exp. Divided by No. of Days in a Year.
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This ratio measures the Firm’s ability to meet its regular cash expenses.
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II. Activity Ratios: It indicates how well the firm is managing various classes of assets such
(Or Turnover Ratio or Performance ratio.) Inventory & Fixed Assets.
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1.
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Inventory Turnover Ratio. OR Stock Turnover Ratio.
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Cost of Goods sold
= -------------------------------
Average Inventory
Average Inventory =
Opening Stock + Closing Stock
- - - - - - - - - - - - - - - - - - - - - - -
2
OR
Raw Material Consumed
= --------------------------------------
Average Raw Material Stock
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This Ratio indicates how efficiently the firm is managing its inventory. Normally the higher ratio indicates better Inventory Management. So it is providing an important tool of management for controlling stock of Raw Material, Work-in-Progress & Finished Goods.
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2.
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Capital Turnover Ratio
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Net Sales
= --------------------------
Capital Employed
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This Ratio indicates the firm’s ability of generating sales per Rupee of Long term Investment.
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3.
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Fixed Assets Turnover Ratio
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Net Sales
= --------------------------
Net Fixed Assets
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This Ratio indicates how efficiently fixed assets are utilizing in generating Sales.
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4.
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Working Capital Turnover Ratio
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Net Sales
= -------------------------
Working Capital
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This Ratio indicates how efficiently Working Capital is utilizing in generating Sales
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5.
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Debtors or Receivables Turnover:
(i) Debtors Turnover Ratio: Credit Sales
= ----------------------------------------
Average Accounts Receivable (AAR)
AAR = Opening AR + Closing AR
- - - - - - - - - - - - - - - - - - - -
2
This Ratio shows how efficiently or quickly collection is made by the Dept. engaged in collection from Debtors.
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(ii) Debt Collection Period Ratio: Months (or Days) in a Year
= ------------------------------------
Debtors Turnover Ratio
OR
Average Accounts Receivable X Months (or Days) in a Year
= --------------------------------------------------------------------------------
Credit Sales for the Year
OR
Average Accounts receivable
= ---------------------------------------------------
Average Monthly or Daily Credit Sales
This Ratio indicates the extent to which the debts are collected in time.
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6.
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Creditors or Payables Turnover:
(i) Creditors Turnover Ratio: Net Credit Purchases
= ----------------------------------------
Average Accounts Payables (AAP)
AAP = Opening AP + Closing AP
- - - - - - - - - - - - - - - - - - - -
2
This Ratio shows the Policy adopted by Creditors as high ratio shows Strict credit policy of Creditors & Lower ratio shows Liberal Credit Policy of the Creditors.
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(ii) Average Payment Period: Months (or Days) in a Year
= ------------------------------------
Creditors Turnover Ratio
OR
Average Accounts Payable X Months (or Days) in a Year
= ----------------------------------------------------------------------------
Credit Purchases for the Year
OR
Average Accounts Payable
= ---------------------------------------------------------
Average Monthly or Daily Credit Purchases
This Ratio indicates the average time period within which payment is to be made to Creditors.
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III. Leverage Ratio: It indicates to what extent the Firm has financed its investments by Borrowings. So it reflects the financial risk exposure of the Firm.
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(A)Capital Structure Ratio: This ratio provides an insight into the financing techniques used by a
Business & focus on Long-term solvency Position.
(a) Owner’s Equity
-------------------- = This ratio indicates the proportion of owner’s fund to total fund invested
Total Equity in the Business. As the higher the ratio lower is the degree of Risk.
(b) Debt Equity Ratio: Debt
= ---------
Equity
As this ratio is the indicator of leverage so it is very often used in Capital Structure decision. This ratio is indicator of firm’s capital structure & firm’s financial risk.
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(B) Coverage Ratio: It measures the Firm’s ability to service the Fixed liabilities.Such fixed l
liabilities consist of:
(i)Interest on Loans
(ii)Preference Dividend
(iii)Paying back of Principal or repayment of the installment or redemption of
Preference Capital on Maturity
Earnings available for Debt service
(a)Debt service coverage ratio = ----------------------------------------------
Interest + Installments
Earnings available for Debt service = Net Profit + Non-cash Exp.(Depreciation) + Non-operating
adjustments like loss on sale of assets + Interest on Debt loan.
This ratio is useful for lenders to judge the firm’s ability to pay off current interest & installments.
Earning before Interest & Taxes
(b)Interest Coverage Ratio = ------------------------------------------
(Times interest earned ratio) Interest on debts
This ratio indicates the firm’s ability to meet liability of Interest on Debts.
Earning after taxes
(c) Preference Dividend coverage Ratio = --------------------------------------
Preference Dividend Liability
This ratio measures the ability of a firm to pay dividend on preference shares, which carry a stated rate of return.
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(C) Capital Gearing Ratio: This ratio indicates the extent to which the firm is taking the advantage of Trading on Equity i.e. Use Debt & Preference shares in such a way that will benefit to equity shareholders. If ratio is high then it is said that firm is highly geared which means there is high risk - high return & vice versa.
Preference share capital+ Debentures + Long term loans
Capital Gearing Ratio = ----------------------------------------------------------------------------------
Equity share capital + Reserves & Surpluses – Accm. Losses
(i) Fixed Assets
---------------------- = It indicates to the what extent Fixed Assets & core working Capital
Long Term Fund is financed through Long-term funds. So this ratio should not be less than 1.If it is less than 1 then it is considered that short-term funds are used to finance Fixed assets. Which indicates that firm has to either acquire more funds to pay such short-term liabilities or sale such fixed assets, which will lead to improper utilization of Fixed Assets or Higher interest burden.
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Equity Share Capital + Preference Share Capital + Reserves &
Surplus – Fictitious Assets
(ii) Proprietary Ratio = --------------------------------------------------------------------------------------
Total Assets
This ratio is useful as a test of long-term financial position of the Firm. It shows to the what extent firm is using the external equity to finance its total assets.
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IV. Profitability Ratios: The Profitability ratios measure the profitability or the operating
efficiency of the Firm.
(i)Profitability ratios required for analysis from owners point of view.
Profit after taxes
a. Return on Equity = -----------------------
Equity
This ratio measures the how well Equity Share Capital is utilized in the Business
Net Profit available to Equity Holders
b. Earning per Share = ------------------------------------------------
No. of ordinary shares Outstanding
This ratio shows the capacity of the firm to declare dividend & shows the profitability per Share.
Total profits distributed to equity share holders
c. Dividend per Share = --------------------------------------------------------------
No. of Equity Shares
This ratio indicates the amount of Profit distributed to shareholders per share.
Market price per Share
d. Price Earning Ratio = ---------------------------------
Earning Per Share
Market Price may be Average share Price or Closing share Price.
This ratio indicates the effect of Earning per share on Market Price of Stock of the Firm. If earning per share is less than the Expectations of the Investors then Market Price will fall & if it is equal to or above their expectations then Market Price of Stock of the Firm will Increase.
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(ii) Profitability Ratios based on Assets/Investments
Return
a. Return on Capital Employed/Return on Investment = ------------------------ x 100
Capital Employed
Return Sales
= --------------- X ----------------------- x 100
Sales Capital Employed
= Profitability Ratio X Capital Turnover Ratio
This ratio states how efficiently the funds are utilized to generate the Profit.
Return = Net Profit (+/-) Non-trade Adjustments (not Depreciation) + Interest on Long term debts + Provision for Tax --
Interest / Dividend from non-trade Investments.
Net Profit after taxes Net Profit after taxes
b. Return on Assets (ROA) = ----------------------------- OR ----------------------------------
Average Total Assets Average Tangible Assets
OR
Net Profit after taxes
------------------------------
Average Fixed assets
This ratio measures the Profitability of the firm in terms of assets employed in the firm.
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(iii) Profitability Ratios based on Sales of Firm
Gross Profit
a. Gross Profit Ratio = -------------------- X 100
Sales
This ratio is used to know the Departmental efficiency or Product Profitability.
If cost is able to bifurcated into Fixed & Variable cost then P/V Ratio can be used which is as under:
Sales – Variable Cost
P/V Ratio = ------------------------------ X 100
Sales
Net Profit
b. Net Profit Ratio = ----------------- X 100
Sales
This ratio is used to know the overall efficiency of the Firm.
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V. Investment Ratios: Such ratios are used for analyzing the performance of select
companies.
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1.
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Dividend Payout Ratio
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Dividend Distributed
= --------------------------- X 100
Net Earnings
I. Dividend includes Pref. Dividend. II.Net earnings after Tax
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As this ratio shows that out of It’s earning how much Profit is distributed as Dividend to shareholders by the Firm. High ratio may increase the Price of share of shares of Firm but future Expansion Programs may be postponed due to insufficient funds. Lower ratio may affect the price of shares of the Firm. There should be a balance that neither price of the shares fall as well as Future expansion Programs will have to postpone.
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2.
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Dividend Yield Ratio
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Equity Dividend
= ----------------------- X 100
Market Price
Market Price may be Average share Price or Closing share Price.
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Shows the rate of return to shareholders in the form of dividend based on the market price of the share.
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3.
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Book value per Share
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Equity Capital + Reserve & Surplus (Excluding Revaluation Reserve)
No. Of Equity Shares
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It is used to know the book value of the shares.
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4.
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Cash Flow per Share
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Net Profit + Depreciation
---------------------------------
No. Of Equity Shares
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It is used to know the cash profit, which is available against No. Of Equity Shares.
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5.Earning Per Share: As we have discussed earlier.
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6. Price Earning Ratio (P/E): As we have discussed earlier.
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VI. Cash Flow Statement:
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1.Cash Generating Efficiency: The ability of the Company to generate cash from its current or continuous operations.
Net Cash flow from operating Activities
a. Cash flow yield = ----------------------------------------------------
Net Income
It is the ability of the firm to generate cash flow out of Net Income earned during the Year.
Net Cash flow from Operating Activities
b. Cash flow to Sales = ------------------------------------------------------
Net Sales
It is used to know the ability of the Firm to generate cash from Net sales.
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Net cash flow from Operating Activities
c. Cash flows to assets = -----------------------------------------------------
Average total Assets
It is the ratio to net cash flow from operating activities to average total assets.
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2. Free Cash Flow: Free cash flow means the amount of cash that remains after deducting funds that are necessary for continuing the operations at planned level. A positive free cash flow meets means company has meet all its planned obligations & has cash in hand to reduce debt or expand. A negative free cash flow means company has to sell investments or borrow money or issue stock to continue operations at planned level.
Price per Share
a. ---------------------------------- = This ratio will tell us the effect of free cash flow on the Price of
Free Cash flow per share shares of the Company.
Operating Cash Flow
b. -------------------------------- = This ratio tells us that out of profit earned during the year how
Operating Profit how much profit is earned in cash.
c. Internal Funding
---------------------------- = The ratio tell us how much of the funds generated by business
Investment Activities (Net) are reinvested in assets.
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FORMULAS
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Sr. No.
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Name
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Formula
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I. Liquidity Ratios
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1.
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Current Assets
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Inventories + Sundry Debtors + Cash & Bank Balance + Receivables/Accruals +
Loans & Advances + Disposable Investments + Prepaid Expenses
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2.
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Current Liabilities
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Creditors for Goods & Services + Short term Loans + Bank Overdraft + Cash credit + Outstanding Expenses + Provision for Taxation + Proposed Dividend + Unclaimed Dividend
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3.
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Quick Assets
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Current Assets -- Inventories
Debtors + Cash & Bank Balance
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4.
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Quick Liabilities
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Current Liabilities – Bank Overdraft – Cash Credit
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II. Activity Ratios
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1.
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Cost of Goods Sold
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Opening Stock + Material Consumed + Mfg. Expenses – Closing Stock OR Sales – Gross Profit
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2.
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Capital Employed
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Equity share Capital + Reserve & Surplus + Pref. Share Capital + Debenture & other Long term Loans – Misc. Expenditure & Losses – Non-trade Investments.
OR
Fixed Assets + Working Capital (It includes intangible assets like goodwill, Patents & Trade Marks but does not include Fictitious Assets)
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III. Leverage Ratio
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1.
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Owner’s Equity
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Equity Share Capital + Preference Share Capital + Reserves & Surplus.
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2.
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Total Equity
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Owner’s Equity + External Equity (Outsiders liabilities including Current Liabilities & Provisions).
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3.
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Debt
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Only Long term borrowed Funds.(But it does not include unsecured deposits or Loans from the Public, shareholders & Employees & Unsecured Loans taken from Others.)
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4.
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Long term Fund
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Equity share Capital + Preference share Capital + Loans with the Maturity period of Five or More Years.
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IV. Miscellaneous
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1.
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Stock
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Current Assets – Liquid Assets
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2.
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Debtors
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Liquid Assets – Cash & Bank Balance
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3.
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Operating Expenses
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Administrative Expenses + Selling & Distribution Expenses
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4.
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Gross Profit
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Operating Expenses + Operating Profit
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5.
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Operating Profit
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Gross Profit – Operating Expenses
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6.
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Operating Cost
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Sales – Operating Profit
Cost of Goods sold + Operating Expenses
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XYZ LTD.
Cash Flow Statement for the year ended on ____________
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Direct Method
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Indirect Method
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Cash Flow from the Operating Activities:
(i)(a) Cash receipts from operating activities …
(b) Cash paid to suppliers & Employees …
Cash generated from Operating Activities …
(ii) Income tax Paid …
(iii) Proceeds from Extraordinary Items …
------
I.Net Proceeds from Operating Activities
------
Cash flows from Investing Activities:
(i) Purchase of Fixed Assets …
(ii) Proceeds from sale of Equipment …
(iii) Interest Received …
(iv) Dividend received …
-------
II. Net Proceeds from Investing Activities
-------
Cash flows from Financing Activities:
(i) Proceeds from issue of share capital …
(ii) Proceeds from Long term borrowings …
(iii) Repayment of long term borrowings …
(iv) Interest paid …
(v) Dividend paid …
--------
III. Net proceeds from Financing Activities
--------
-------------
Net Cash Flow (I + II + III)
-------------
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Cash Flow from the Operating Activities:
(i)(a) Net profit before taxation & extraordinary Items …
(b) Adjustment for
n Depreciation …
n Foreign Exchange Loss …
n Loss on sale of assets …
n Interest Paid / (Interest Income) …
n Dividend Paid / (Dividend Income) …
(c ) Changes in:
n Debtors (+ / -)
n Inventories
n Creditors
-------
Cash generated from Operations
-------
(ii) Income tax Paid …
(iii) Proceeds from extraordinary items …
------
I.Net Proceeds from Operating Activities
------
Cash flows from Investing Activities:
(i) Purchase of Fixed Assets …
(ii) Proceeds from sale of Equipment …
(iii) Interest Received …
(iv) Dividend received …
-------
II. Net Proceeds from Investing Activities
-------
Cash flows from Financing Activities:
(i) Proceeds from issue of share capital …
(ii) Proceeds from Long term borrowings …
(iii) Repayment of long term borrowings …
(iv) Interest paid …
(v) Dividend paid …
--------
III. Net proceeds from Financing Activities
--------
-------------
Net Cash Flow (I + II + III)
-------------
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Funds flow Statement
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Particulars
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Current Year
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Previous Year
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Sources of Funds:
Trading Profit or Funds from Operations
Sale of Fixed assets
Issue of Shares & Debentures
Proceeds from Long term Loans
Non Trading Income
Decrease in Working Capital
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T O T A L
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Applications of Funds:
Purchase of Fixed assets
Redemption of Pref. Shares & Debentures
Repayment of Long term Loans
Payment of Taxes & Dividend
Non trading Losses
Increase in Working Capital
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T O T A L
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