Accounts Presentation on RATIO ANALYSIS

Presented to: Prof. ANKIT KHARE

Presented by: KARUNA SHALINI SAMAR RAJ RANJAN IMRAN BALKISHAN

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What are ratios Liquidity
Current ratio Acid test ratio

Leverage ratio --debt equity ratio --total asset to debt ratio

Activity ratio
Stock turnover Asset turnover Debtors collection period

Profitability ratios and valuation ratio

Gross profit Net profit Return on capital employed Price earning ratio Earning per share Dividend yield

Limitations of ratio analysis

Ratio Analysis
Purpose: To identify aspects of a businesss performance to aid decision making Quantitative process may need to be supplemented by qualitative factors to get a complete picture 5 main areas:

1. Liquidity the ability of the firm to pay its way a)Current Ratios b)quick Ratio

2. LEVERAGE RATIOS information to enable decisions to be made on the extent of the risk and the earning potential of a business investment.

a)Debt Equity Ratios b)Total asset to debt Ratios

Cont
3. Activity or turnover Ratios the rate at which the company sells its stock and the efficiency with which it uses its assets. 4. Profitability how effective the firm is at generating profits given sales and or its capital assets.
a)Gross profit b)Net profit c)Return on capital employed

5. VALUATION RATIOS: Indicate how the equity stock of the firm is assessed in the capital market.
a)Price earning ratio b)Earning per share

RATIO ANALYSIS (Liquidity Ratios)

1. LIQUIDITY RATIOS: Refer to the ability of the firm to meet its obligations in the short-run, usually one year.

(a) Current Ratio: Current Assets Current Liabilities (C.A. includes cash, marketable securities, debtors, inventories, loans & advances, & prepaid expenses. C.L. includes loans & advances taken, trade creditors,)
The ideal Current Ratio preferred by Banks is 1.33 : 1

RATIO ANALYSIS (Liquidity Ratios) .contd.

(b) Acid Test Ratio(Quick Ratio): Quick Assets Current Liabilities

Quick assets are current assets excluding inventories as it is the least liquid C.A.
An ideal quick ratio is said to be 1:1.

RATIO ANALYSIS (Leverage Ratios)

2. LEVERAGE RATIOS: Refer to the ability of the firm to meet its long- term liabilities as and when they become due . (a) Debt Equity Ratio: Debt Equity It shows the relative contribution of creditors & owners. Numerator consists of Short & Long-term Liabilities & denominator consists of Net Worth plus Preference Capital) * Net Worth = Equity Capital + Reserves & Surplus Lower the ratio, higher the degree of protection enjoyed by creditors.

RATIO ANALYSIS (Leverage Ratios) .contd.

.a1) Interest Coverage Ratio: Measures the ability of the firm to meet its interest obligations. Earnings before Interest & Tax (EBIT) Interest EBIT is used as numerator since the ability of the firm to pay interest is not affected by tax payment, as interest is a tax deductible expense.

RATIO ANALYSIS (Leverage Ratios) .contd.

(b) Total assets to debt ratio : Total assets Debt 1:1 or 2:1 is supposed to be an ideal ratio.

Inventory or Finished Goods T.R.

Cost of goods sold Average stock

Where, the cost of goods sold means sales minus gross profit. Average stock refers to simple average of opening and closing inventory. The inventory turnover ratio tells the efficiency of inventory management. Higher the ratio, more the efficient of inventory

RATIO ANALYSIS (Profitability Ratios)

4. PROFITABILITY RATIOS: Reflect the final result of the business operations (of two types) Profit margin ratios & Rate of return ratios. (a) Gross Profit Margin Ratio: Shows the margin left after meeting manufacturing costs: Gross Profit Net Sales

RATIO ANALYSIS (Profitability Ratios). Contd.

(b) Net Profit Margin Ratio: Shows the earnings left for share holders (both equity & preference) as % of net sales. Net Profit Net Sales (c) Return on Equity Ratio: Measures the profitability of equity funds invested in the firm reflects the productivity of the ownership capital employed in the firm. Equity Earnings Average Net Worth

RATIO ANALYSIS (Valuation Ratios)

5. VALUATION RATIOS: Indicate how the equity stock of the firm is assessed in the capital market. (a) Price-earning Ratio (P/E ratio) : Commonly referred to as price-earning multiple. PE Ratio indicates the number of times the Earning Per Share is covered by its market price. Market Price per share (Av. market price) Earning per share

RATIO ANALYSIS (Valuation Ratios). Contd.

(b) Earning per shares: EPS indicates the ratio of net profit of the year that would be ranking for dividend for each share of the company being held by the equity share holders. Net Profits after tax & Preference dividend No. of Equity Shares (c) Dividend Yield: Measure of the rate of return earned by the shareholders. Dividend per shares Market Price per shares Firms with low growth prospects offer a high dividend yield and a low capital gains yield.

Limitations With Ratio Analysis

To be most beneficial the results need to be compared with other data including:
The results for the same business over previous years The results of ratio analysis for their competitors The results of ratio analysis for other firms in other industries

summary
Ratios are used to look at the performance of a business Liquidity ratios look at the firms ability to meet its debts Current ratio = current assets current liabilities Acid test ratio = current assets- stock current liabilities Shareholder ratios these are ratios that shareholders would be interested in Dividends per share total dividends / number of shares issued Dividend yield ordinary share dividend / market price x 100 Efficiency ratios how well the business is operate Stock turnover = Stock turnover ratio = cost of sales / stock Asset turnover = Asset turnover = sales (turnover) / net assets Debtors collection period debtors x 365 / turnover Profitability ratios assess the profitability of the business Gross profit = Gross profit / turnover x 100 Net profit = Net profit / turnover x 100 Return on capital employed = Profit / capital employed x 100 Limitations of ratio analysis need to be able to compare figures over time and between companies to be most effective

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