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1.

0 I nt ro du ct ion :
In our country textile companies are doing very well business. So many competitors
are in this sector. Lots of new companies entered this market. From all of them we
choose two cement company for our report. We collect their financial statement &
analyze them within three methods & we identify their comparative advantage.
1.1 Origin :This is the report comes from our FIN-245 subject. The
course instructor Ms. Tarana Majid orally authorized the task of preparing the report
to a group of student. She gave this report to learn the way to analyze the financial
statements. To follow the syllabus of our subject so we have to do some relevant
study based on our report. That’s why this topic comes forward.
1. 2 Scope :We worked on Ashraf textile mills ltd. & Saiham textile
mills ltd for our report.
1.3 Limitat ion:We are very happy because we made our report
within some limitations and overcome it almost. For prepare this report we faced
some barrier. When we prepared this report all necessary data is not available. For this
we assume some of the data to complete the report. On the other hand when we go to
collect the financial statement we were unable to found our needed statement books.
Finally, one limitation was on shortage of knowledge that was reduced to make this
report a better one.
1.4 Sour ce of Data:For our report we collect data for finding &
analysis. At first we collected the annual report & take financial statements
of two companies’. We also collected some data from the internet.
1.5 Methodol ogy : As a rule, we had to follow a particular
method for collecting data to complete the report accurately. At first we make Income
Statement, Balance Sheet & Cash Flow on a excel sheet. Than we analysis the Income
Statement & the Balance Sheet using the common sizing & indexing method. Finally
we used the eleven financial ratios for our ratio analysis.
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2.0 Brief History of company:


Saiham Textile Ltd.
Late Syed Sayeed Uddin Ahmed & Begum Hamida Banu, in remembrance of whom,
Saiham Textile Mills Limited has derived the name of the company; would have been
proud to know how well their offspring have managed and extended the organization.
Saiham Textile Mills was set up in Noyapara, Hobiganj district in the year 1982 with
an annual capacity of 7.5 m yards of finished cloth. It was equipped with modern and
sophisticated machineries from Japan. Initially it was a weaving, dyeing printing and
finishing plant. Saiham Textile claims to be the pioneer in introducing the concept of
modern fabrics in Bangladesh. They were one of the first textile mills to start
international standard polyester fabric, TC fabric, synthetic and Georgette sarees with
cross border. The mother company of the present conglomerate is now comprised of
different industrial concerns. The entrepreneurship of Saiham, consists of five
directors, all from the same family. Although a company run and managed by
relatives, the standard and efficiency of the management does not compromise on its
quality.
Ashraf Textile mills Ltd.
Ashraf textile mills ltd is one of the another company which is run and
managed by relatives, the standard and efficiency of the management does
not compromise on its quality.
Addressed:
Ashraf Textile Mills Ltd.
New DOSH, Mohakhali
Dhaka - 1212
Ph : 9887051-53
Fax : 9887033
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3 .0 Findings & Analysis:


According to our report subject our main objective is identifying the difference
between two companies financial statement. Also we want to find out which company
is more stable & which is not stable. From the financial statement we can find out our
requirements. In below we give our finding & analysis in basis of company’s financial
statement.
3.1 Analyze of Income Statement, Balance
Sheet between two companies’s:
In below we are going to discuss about the two companies balance sheet,
Income Statement & Cash flow comparison in a briefly :
3.1.1 Balance Sheet Comparison:
Assets:
From the balance sheet of the both companies we can identify that Ashraf textile
had504,741,251 tk total assets in 2005 but on the other hand Saiham textile had
only425,320,371 tk total asset in 2003-2004. Next year Ashraf textile companies total
asset was decreased and Saiham textile company’s total assets increase and in 2007
Ashraf textile reached in167,726,578 tk whereas in 2005-2006 Saiham textile’s total
asset436,650,516 tk. For the total asset volume we can say that Saiham textile has
more powerful rather than Ashraf textile.
Liability:
The total liability we saw that Ashraf textile had623,823,012 tk liabilities in 2005 &
Saiham textile had152,581,718tk only in 2003-2004.Both companies’ liabilities were
also increased in next year. But clearly we can comments that Ashraf textile had least
liability than the Saiham textile. How ever Saiham textile had the more Net asset than
the Ashraf textile.
share holder’s equity
we can easily understand that Saiham textile had the more equity and it was
818,663,635 tk for 2004-06 & Ashraf textile had -1,123,244,182. So we can say
that Saiham textile had the more investment in the market.
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3.1.2 Income Statement Comparison:


From our income statement we can identify that Saiham textile has a profit
74,932,529tk in 2004 &52,001,246 tk in 2005 &57,295,427 tk in 2006. From this we
can say that the profit is decreasing by next two years. And this shows that sale for
Saiham textile decreasing during the next two year. On the other hand Ashraf textile
is in a loss of-62,609,854 tk in 2005 & -122,738,787 tk in 2006 &-14,064,257 tk in
2007. They continue their business in loss where Saiham textile doing their business
with profitability.
3. 1.3 Analyzing Common Sizing & Indexing:
In common size analysis we express the various components of a balance sheet as
percentage of the total assets of the company.In addition this can be done for the
income statement,but here items are releted to net sales.In Ashraf textile balance
sheets over the three year span the percentage of current assets increased.On the other
hand Saiham textile current assets fluctuated. We see that Ashraf textile account
receivable showed a relative diccreased from 2005 to 2007.Saiham textile account
receivable flactuated from 2003-04 to 2005-2006.On the liability & equity portion of
the balance sheets, Ashraf textile total debt of the company decline on a relative basis
from 2005 to 2007.but Saiham textile total debt diccreased in 2004-2005 & increased
in 2005-2006.
The common size income statement show the gross profit/loss margin from year to
year. We see that Ashraf textile operating expenses increase year to year & in 2007
increases sharply.whereas Saiham textile operating expenses diccreased in 2004-2005
& increase again in 2005-2006.In 2005-2007 Ashraf textile’s net profit had negetive
percentage, whereas Saiham textile’s net profit increased.
In indexes analysis all financial statement items are 100%. In 2006 & 2007 Ashraf
textile current assets indexed is 91.53 & 9.95 whereas Saiham textile current assets s
indexed is 116.26 & 100.93 in 2004-2005 & 2005-2006.
The indexed income statements give much the same picture as the common size
income statements – namely, fluctuating behavior. In Ashraf textile income statement
total gross loss indexed are 100, 196.037491 & 22.46332822 in 2005 , 2006 &
2007.Whereas Saiham textile’s gross profit are 100, 69.3974 & 76.4626 in 2003-04,
2004-05 & 2005-2006.
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4.0 Financial Statement Analysis by ratio:


For the performance measurement of Ashraf textile & Saiham textile mills Ltd. In
below we are going to analysis about the two companies financial statement using
ratio analysis. We used 11 methods to analyze the ratio. Here are belongs:
4.1 Liquidity Ratio:
i) Current Ratio: Current assets divided by current liabilities. It shows a
firm’s ability to cover its current liabilities with its current assets. In below
there is the graph of the two textile company’s current ratio:
0
0.2
0.4
ratio
year
current ratio(Ashraf textile)
Series10.32332 0.13204 0.16733
2005
2006
2007
01
2
ratio
year
current ratio(Saiham textile)
Series11.044 0.764 0.982
2003- 2004- 2005-
From the graph we can see that Ashraf textile current ratio is 0.32 times in 2005 and
0.167 times in 2007. Here we see that current ratio has been decreased and go down in
less than 1. On the other hand Saiham textile current ratio is 1.044 in 2003-04 & next
two year stay remain but it also be below the 1 and from the Ashraf textile. In the last
year for both company we suggested that the current liabilities cannot be covered if
existing current asset are liquated at their book values.
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ii)Quick Ratio: Current assets less inventories divided by current liabilities.


It shows a firms ability to meet current liabilities with its most liquid assets.
0
0.05
0.1
0.15
0.2
ratio
ye ar
Quick ratio(Ashraf textile)
Series10.197173 0.069725 0.138913
2005
2006
2007
0
0.1
0.2
0.3
0.4
ratio
year
Quick ratio(Saiham textile)
Series10.2643053 0.15642413 0.38213114
2003-2004 2004-2005 2005-2006
From the graph we can easily identify that in 2006 Ashraf textile & Saiham textile
quick ratio is decreased dramatically. We say that in the last year of the both
company’s quick ratio increased. But Saiham textile has good position than the
Ashraf textile.
4.2 Financial Leverage debt ratio:
i)Debt-To-Equity: Ratios that show the extent to which the firm is financed
by debt.
-
100
Ratio
year
Debt to Equity(Ashraf textile)
Series1-5.239 -2.17 -1.253
2005 2006 2007
0
0.51
Ratio
year
Debt to Equity(Saiham textile)
Series10.559443 0.887395 0.59995
2003-
2004-
2005-
If we consider the year 2007 of Ashraf textile, the ratio is -1.253 that creditors are
providing for each tk 1. In the case of Saiham textile in 2005- 2006 the ratio is 0.599
that creditors are providing. So we can say that Ashraf textile is in a better position
than the Saiham textile.
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ii) Debt-To-Total Asset Ratio: The debt to total asset ratio is derived by
dividing a firm’s total debt by its total assets.
0246
ratio
year
Sebt to Assets (Ashraf textile)
Series11.235926 1.854987 4.95805
2005
2006
2007
0
0.2
0.4
0.6
ratio
year
Debt to Assets(Saiham textile)
Series10.358745 0.470169 0.374981
2003-
2004-
2005-
From the graph we can realize that Ashraf textile ratio is more than Saiham textile in
their last three year. We know that the higher the debt to assets ratio, the greater the
financial risk; the lower the ratio, the lower the risk. So Ashraf textile has more risk
than the Saiham textile.
4.3 Coverage Ratio:
i) Interest Coverage Ratio: Ratio earning before interest and taxes divided
by interest charges. It indicates a firm’s ability to cover interest charges. It is
also called times interest earned.
0
0.51
1.5
2
2.5
3
ratio
year
Interest coverage(Ashraf textile)
Series1
Series11.7272998 2.7067618 0.3935626
2005
2006
2007
012345
ratio
year
Interest coverage(Saiham textile)
Series14.3453871 3.1634257 2.5946142
2003-
2004-
2005-
This ratio serves as one measure of the firm’s ability to meet its interest payments and
thus avoid bankruptcy. The higher the ratio the greater company could cover its
interest payment without difficulty. So analyze after the two graphs we can said that
Saiham textile has more interest coverage than the Ashraf textile Cement. Ashraf
textile ratio is fluctuated highly in 2007.
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4.4 Activity Ratio:


i) Receivable Turnover: the receivable turnover ratio provides insight into
the equality of the firm’s receivables and how to successful the firm is in is
collections. This ratio is calculated by dividing receivables into annual net credit
sales.
0
20
40
60
80
100
120
140
Days
year
Receivable turnover(Ashraf textile)
Series1
101
6
125
2005
2006
2007
0
10
20
30
40
50
Day
Ye ar
Receivable turnover (Saiham textile)
Series1
14
6
42
2003-2004 2004-2005 2005-2006
From the graph we can say that Ashraf textile received their receivable money from
the buyers within 101 days in 2005, 6 days in 2006 & 125 days in 2007. On the other,
Saiham textile received within 14 day in 2003-2004, 6 day in 2004-2005 and 42 days
in 2005-2006. Eventually we can say that Saiham textile was received money within
short time rather than the Ashraf textile.
ii) PAYABLE TURNOVER: There may be occasions when a firm wants to
study in own promptness of payment to suppliers or that of a potential credit
customer. This ratio is calculated by dividing purchase into total A/C payable.
0
50000
100000
150000
200000
250000
300000
350000
400000
Days
year
Payable turnover(Ashraf textile)
Series1
138
276
360420
2005
2006
2007
05
10
15
20
25
30
35
Days
year
Payable turnover(Saiham textile)
Series1
35
10
15
2003-2004
2004-2005
2005-2006
From the graph we can say that Ashraf textile paid their payable money to the sales
within 138 days in 2005, 276 days in 2006 & 360420 days in 2007. On the other,
Saiham textile paid within 35 day in 2003-2004, 10 day in 2004-2005 and 15 days in
2005-2006. Eventually we can say that Saiham textile was paid money within short
time rather than the Ashraf textile.
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iii) INVENTORY ACTIVITY: To help determine how effectively the firm


is managing inventory and also to gain an indication of the liquidity of
inventory. This ratio is calculated by dividing inventory into COGS.
0
100
200
300
400
Days
year
Inventory Activity(Ashraf textile)
Series1
60
53
369
2005
2006
2007
0
50
100
150
200
250
Days
year
Inventory Activity(Saiham textile)
S eries1
170
225
176
2003-2004 2004-2005
2005- 2006
The figures tell us how many days, on average, before inventory is turned into
accounts receivable through sales. Here we see that Ashraf textile was faster than
Saiham textile in case of inventory activity.
iv) TOTAL ASSET TURNOVER: The relationship of net sales to total
assets is known as the total asset turnover, or capital turnover.
0
0.1
0.2
0.3
0.4
0.5
0.6
0.7
ratio
year
Total asset turnover(Ashraf textile)
Series10.6780095
0.4476056 0.05087134
2005
2006
2007
0
0.1
0.2
0.3
0.4
0.5
0.6
0.7
0.8
ratio
year
Total Asset turnover(Saiham textile)
Series10.77632571 0.56348701 0.5969018
2003-2004 2004-2005 2005-2006
The median total asset turnover for the industry is 1.66. For this ratio analysis we saw
that Ashraf textile & Saiham textile both are less efficient than the industry in this
regard. On the other hand Saiham textile is in a better position than the Ashraf textile.
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4.5 Profitability Ratio:


i) PROFITABILITY RATIO IN RELATION TO SALES: The ratio we consider is
the gross profit margin or simply gross profit divided by net sales.
0
0.51
1.5
2
2.5
3
3.5
4
ratio
year
Profitability in ratio to sales(Ashraf
textile)
Series12.1829524 2.6889593973.648320722
2005
2006
2007
1.74
1.75
1.76
1.77
1.78
1.79
1.8
1.81
1.82
1.83
ratio
year
Profitability in relation to
sales(Saiham textile)
S eries11.773060426 1.820902862 1.780171958
2003- 2004
2004- 2005
2005- 2006
It is a measure of the efficiency of the firm’s operations, as well as an indication of
how products are priced. From the above graphs we saw that Ashraf textile has
relatively more effective at producing and selling products above cost.
ii)PROFITABILITY RATIO IN RELATION TO INVESTMENT: this profitability
ratio relates profits to investment. One of those measures is the rate of return on
investment, or return on asset.
-2
-1.5
-1
- 0.50
ratio
year
Profitability in relation to
investment(Ashraf textile)
S eries1-0.235798631 -0.507839396 -1.707107588
2005
2006
2007
0
0.005
0.01
0.015
0.02
0.025
ratio
year
Profitability in relation to
investment(Saiham textile)
Series10.023235772
0.018004789 0.023118956
2003- 2004
2004- 2005
2005- 2006
The standard ratio compares for this is nearly 8%. From our analysis we
found that Saiham textile ratio simply fluctuates. Their percentage is not so
good. On the other handAshraf textile had negative percentage from 2005-
2007.
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5.0Conclusion:
We examine the analysis of Ashraf textile & Saiham textile mills ltd. We see that the
liquidity position is nit good both of the company. Comparatively Saiham textile
better than Ashraf textile mills ltd. Ashraf textile mills ltd. should change the credit
policy & proper use of its assets. The profitability ratio of Ashraf textile mills ltd.
Good than the Saiham textile mills ltd. The company should avoid the use of debt;
otherwise company would be fall into bankruptcy.
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6.0Bibliography:
i) Annual report-
-Ashraf textile mills ltd. For the year of 2005, 2006
& 2007.
-Saiham textile mills ltd. For the year of 2003- 2004,
2004-2005
&
2005-2006.
ii) Fundamental of financial management
(Twelfth edition)
-James
CHAPTER-I

FINANCIAL STATEMENTS

LEARNING OBJECTIVES
After studying this chapter, you will be able to:
• Explain the meaning of financial statements of a company;
• Describe the form and content of balance sheet of a company;
• Prepare the Balance Sheet of a company as per Schedule VI Part I of the
Companies Act 1956.
• Know the major headings under which the various assets and liabilities can be
shown.
• Explain the meaning, objectives and limitations of analysis using accounting
ratios
• Calculate various ratios to assess the solvency, liquidity, efficiency and
profitability of the firm.
• Interpret the various ratios for inter and intra-firm comparison.
define Cash Flow Statement
• know its objectives
• understand its uses [Uses of Cash Flow Statement]
• explain the Limitations of Cash Flow Statements
• classify the Cash Flows as
•. cash flow from Operating Activities
•. cash flow from Operating
•. cash Flow from Financing Activities
• make a format of Cash Flow Statement as per Revised AS-3.
• prepare Cash Flow Statement in a Prescribed Format.

1.0 The financial statements are the end products of the accounting process which
summaries the financial position and performance of a business concern in an
organized manner. Financial Statements provide a summarized view of the operations
of the business. They serve as an important medium in communicating accounting
information to various users of accounts.

If you can read a cricket scoreboard, you can learn to read basic financial statements.
Let’s begin by looking at what financial statements do.

1.1 Financial Statements of a company


Financial Statements show you where a company’s money came from, where it went,
and where it is now.
Financial statements are the basic and formal annual reports through which the
corporate management communicates financial information to its owners and various
other external parties which include-investors, tax authorities, government,
employees, etc.
There are two main financial statements. They are: (1) balance sheets; (2) income
statements.
Balance sheets show what a company owns and what it owes at a fixed point in time.
Income statements show how much money a company made and spent over a period
of time.
Let’s look at the Balance Sheet in more detail.

USERS OF FINANCIAL STATEMENTS

1.2 Investors and potential investors

The present investors want to decide whether they should hold the securities of the
company or sell them.
Potential investors, on the other hand, want to know whether they should invest in the
shares of the company or not.

Investors (Shareholders or owners) and potential investors, thus, make use of the
financial statements to judge the present and future earning capacity of the business,
to judge the operational efficiency of the business and to know the safety of
investment and growth prospects.

Lenders/long term creditors


Financial statement helps lenders such as debenture holders, suppliers of loans and
leases in ascertaining the long term and short term solvency of the business. They like
to know the financial soundness of the business i.e. the ability of the business to repay
debt on maturity and whether the enterprise earns sufficient profits so as to pay
interest regularly.

Management

Analysis of financial statements enable the management to evaluate the overall


efficieny of the firm. It helps to ascertain the solvency of the enterprise; to know
about its viability as a going concern and to provide adequate information for
planning and controlling the affairs of the business. Future forecasts can easily be
made by analyzing the past date.

Suppliers/short term creditors


Creditors/suppliers supplying goods to a business are interested to know as to whether
the business would be in a position to pay the amounts on time. They are interested in
short-term solvency i.e. the liquidity of the business.

They are more interested in current assets and current liabilities of the business. If
current assets are sufficient, say, twice the current liabilities, they are satisfied that the
business would be able to discharge the short-term debts on time.

Employees and Trade Unions


Employees are interested in better emoluments, bonus and continuance of business
and whether the dues like provident fund, ESI et., have been deposited with the
authorities.

They would therefore, like to know its financial performance and profitability and
operating sustainability.

Government and its agencies


Financial statements are used by government and its agencies to formulate policies to
regulate the activities of business, to formulate taxation policies, to compile national
income accounts.

Taxation authorities such as income tax department use the financial statements for
determination of income tax; sales tax department is interested in sales while the
excise department is interested in production.

Stock exchange
Stock exchange uses the financial statements to analyze and thereafter, inform its
members about the performance, financial health, etc. of the company, to see whether
financial statements prepared are in conformity with the specified laws and rules and
to see whether they safeguard the interest of various concerned agencies.

Other Regulatory authorities (such as, Company Law Board, SEBI, Stock Exchanges,
Tax Authorities etc.) would like that the financial statements prepared are in
conformity with the specified laws and rules, and are to safeguard the interest of
various concerned agencies. For example, taxation authorities would be interested in
ensuring proper assessment of tax liability of the enterprise as per the laws in force
from time to time.
Customers
Customers are interested to ascertain continuance of an enterprise.
For example, an enterprise may be supplier of a particular type of consumer goods
and in case it appears that the enterprise may not continue for a long time, the
customer has to find an alternate source.

BALANCE SHEET- MEANING AND PURPOSE

Balance Sheet is a financial statement that summarizes a company’s assets, liabilities


and shareholders’ equity at a specific point in time. These three balance sheet
segments give investors an idea as to what the company owns and owes, as well as the
amount invested by the shareholders.
The balance sheet show: Assets = Liabilities + Shareholders’ Equity
A balance sheet thus, provides detailed information about a company’s assets,
liabilities and shareholders’ equity.
Assets are things that a company owns that have value. This typically means they can
either be sold or used by the company to make products or provide services that can
be sold. Assets include physical property, such as plants, trucks, equipment and
inventory. It also includes things that can’t be touched but nevertheless exist and have
value, such as trademarks and patents. And cash itself is an asset. So are investments a
company makes.
Liabilities are amounts of money that a company owes to others. This can include all
kinds of obligations, like money borrowed from a bank to launch a new product,
money owed to suppliers for materials, payroll a company owes to its employees,
taxes owed to the government. Liabilities also include obligations to provide goods or
services to customers in the future.

Shareholders’ equity is sometimes called capital or net worth. It’s the money that
would be left if a company sold all of its assets and paid off all of its liabilities. This
leftover money belongs to the shareholders, or the owners, of the company.

A company has to pay for all the things it has (assets) by either borrowing money
(liabilities) or getting it from shareholders (shareholders’ equity).

The purpose of a Balance Sheet is to report the financial position of a company at a


certain point in time. It is divided into two columns. The first column shows what the
company owes (liabilities and net worth). The second shows what the company owns
(assets) on the right. At the bottom of each list is the total of that column. As the name
implies, the bottom line of the balance sheet must always “balance.” In other words,
the total assets are equal to the total liabilities plus the net worth.

The balance sheet is one of the most important pieces of financial information issued
by a company. It is a snapshot of what a company owns and owes at the point in time.
The income statement, on the other hand, shows how much revenue and profit a
company has generated over a certain period.

Neither statement is better than the other-rather, the financial statements are built to
be used together to present a complete picture of a company’s finances.

CONTENTS OF BALANCE SHEET

The prescribed form of the Balance Sheet is given in Part I of Schedule VI of the
Companies Act, 1956.
The Companies Act has laid down two forms of the Balance Sheet known as :
(i) Horizontal form
(ii) Vetical form

FORMAT OF SUMMARISED BALANCE SHEET(HORIZONTAL FORM)


SCHEDULE VI PART I
Balance Sheet of …. CO.LTD.
As at …

Figures for the previous year


Rs. Liabilities Figures for the current year
Rs. Figures for the previous year
Rs. Assets Figures for the current year
Rs.
1. Share Capital
2. Reserves and surplus
3. Secured Loans
4. Unsecured Loans
5. Current Liabilities and
Provisions
(a) Current Liabilities
(b) Provisions 1. Fixed Assets
2. Investments
3. Current Assets, Loans and
Advances
(a) Current Assets
(b) Loans and Advances
4. Miscellaneous Expenditure
5. Profit and Loss A/c

Note: A footnote to the Balance Sheet may be added to show the contingent liabilities.

The format of the detailed Balance Sheet of a company in a horizontal form is given
below:

FORMAT OF THE DETAILED BLANCE SHEET IN A HORIZONTAL FORM


Horizontal Form of Balance Sheet
Balance Sheet of ….(Name of the Company) as on …..
Figures for the previous year
Rs. Liabilities Figures for the current year
Rs. Figures for the previous year
Rs. Assets Figures for the current year
Rs.
Share Capital
Authorised
…shares of Rs…. Each
Preference
Equity
Issued:
Preference
Equity
Less: Calls Unpaid:
Add: Forfeited
Shares
Reserves and
Surplus:
Capital Reserve
Capital Redemption Reserve
Securities Premium
Other Reserves
Profit and Loss Account
Secured Loans:
Debentures
Loans and Advance from
Banks
Loans and Advance from
Subsidiary Companies
Other Loans and Advances
Unsecured Loans:
Fixed Deposits
Loans and Advances from
Subsidiaries
Companies
Short Term Loans and
Advances
Other Loans and Advances
Current Liabilities and
Provisions:
A. Current Liabilities
Acceptances
Debentures
Sundry Creditors
Outstanding Expenses
B. Provisions:
For Taxation
For Dividends
For Contingencies
For Provident Fund Schemes
For Insurance, Pension and
Other similar benefits Fixed Assets:
Goodwill
Land
Building
Leasehold Premises
Railway Sidings
Plant and Machinery
Furniture
Patents and Trademarks
Live Stock
Vehicles
Investments:
Government or Trust Securities, Shares, Debentures, Bonds
Current Assets, Loans and Advances:
(A) Current Assets:
Interest Accrued
Stores and Spare parts
Loose Tools
Stock in Trade
Work in Progress
Sundry Debtors
Cash and Bank balances
(B) Loans and Advances:
Advances and Loans to Subsidiary
Bills Receivable
Advance Payments
Miscellaneous-Expenditure:
Preliminary Expenses
Discount on Issue of Shares and other Deferred Expenses
Profit and Loss Account
(debit Balance: if any)

Format of the Balance Sheet in vertical form

Balance Sheet of …. As on ……

Particulars Schedule Number Figures as at the end of current financial year


Figures as at the end of previous financial year
I. Source of Funds:
1. Shareholder’s Funds:
(a) Share Capital
(b) Reserves and Surplus
2. Loan Funds:
(a) Secured loans
(b) Unsecured loans
Total(Capital Employed)
II. Application of Funds
1. Fixed Assets:
(a) Gross block
(b) Less : depreciation
(c) Net block
(d) Capital work-in-progress
2. Investments:
3. Current Assets, Loans and Advances:
(a) Inventories
(b) Sundry Debtors
(c) Cash and Bank Balances
(d) Other Current Assets
(e) Loans and Advances
Less: Current Liabilities and Provisions:
(a) Current liabilities
(b) Provisions
Net Current Assets
4. (a) Miscellaneous expenditure to the extent not written-off or adjusted.
(b) Profit and Loss account
(debit balance, if any)
TOTAL

Note: A footnote to the Balance Sheet may be added to show the contingent liabilities.

HOW TO READ A COMPANY’S BALANCE SHEET

(i) LIABILITIES SIDE


1. Share Capital: Unlike the non corporate entities were the entire capital is brought in
by the proprietors or the partners, in the case of a company, it is brought in by the
promoters, their friends, relatives as well as the general public in case of listed
companies. The capital is known share capital and shareholders get dividend out of
the profits of the company as return on their investment.
Share Capital is broadly divided into: Authorised Capital, Issued Capital, Subscribed
Capital, Called up and Paid up capital.

Authorised Capital is the maximum share capital that a company is allowed to issue
during its lifetime. It is stated in the Memorandum of Association.

Issued Capital is that part of authorized capital, which is offered to the public for
subscription, including shares offered to the vendors for subscription other than cash
(i.e. issue of shares in consideration for some other asset purchased).

Called-up capital means that part of subscribed capital which is called-up by the
company for payment by the subscribers to the shares.

Paid up capital The amount that the shareholders have actually paid to the company is
called as paid up capital of the company.

Calls in arrears must be shown by the way of deduction from the called up capital and

Forfeited shares account by the way of addition to the paid up capital.

2. Reserves and Surplus: Reserves represent that portion of earnings and receipts of a
company which are set apart by the management for a general or a specific purpose.
This item includes accumulated profits, reserves and funds- such as capital reserves,
capital redemption reserve, balance of securities premium account, general reserve,
credit balance of profit and loss account, and other reserves specifying the nature of
each reserve and the amount in respect thereof including the additions during the
current year.

3. Secured Loans: Long-term loans, which are taken against security of one or more
assets of the company, are included under this head. Debentures and secured loans
and advances from banks, subsidiary companies, etc., fall under this category.
Likewise interest accrued and due on secured loans is also recorded under the same
head.

4. Unsecured Loans: Loans and advances which are not backed by any security in the
form of assets of the company are shown under this heading. This item includes fixed
deposits, unsecured loans and advances from subsidiary companies, short-term loans
and advances from banks and other sources.

5.Current Liabilities and Provisions : Current liabilities refer to such liabilities, which
mature within a period of one year. They include bills payable, sundry creditors,
advance payments and unexpired discounts, unclaimed dividends, Interest accrued but
not paid, and other liabilities. Provisions refer to the amounts set aside out of revenue
profits for some specific liabilities payable within a period of one year. Those include
provision for taxation, proposed dividends, provision for contingencies, provision for
provident fund, provision for insurance; pension and similar staff benefit schemes,
etc. Both the sub headings current liabilities as well as provisions must be shown
separately under two sub-heads- (a) Current liabilities (b) Provisions.
Contingent liabilities
These are the liabilities which may arise in future on the happening of some event.
Contingent liabilities are not included in the total of the liability side. These are
shown as a footnote to the Balance Sheet.

Following are the usual types of contingent liabilities:

(i) Claims against the company not acknowledged as debt.


(ii) Uncalled liability on shares partly paid.
(iii) Arrears of fixed cumulative dividend.
(iv) Estimated amount of contracts remaining to be executed on capital account
and not provided for.
(v) Bills discounted not yet matured.

ASSETS SIDE
1. Fixed Assets : These are assets which are meant for use in business and not for
sale. These assets provide a long term economic benefit, usually for more than one
year to the firm. These include goodwill, land, buildings, leaseholds, plant and
machinery, railway sidings, furniture and fittings, patents, livestock, vehicles, etc.
These assets are shown at cost less depreciation till the date.
2. Investments: Business is supposed to great profit. When generated, this profit
in excess of what is required for the business can be invested into say, shares or
debentures of various companies. Investments thus represent assets held by an
enterprise for earning income. Under this head, various investments made such as
investment in government securities or trust securities; investment in shares,
debentures, and bonds of other companies, immovable properties, etc., are shown.
3. Current Assets, Loans and Advances : One the fixed assets are in a state of
readiness to produce or provide goods and services, the company needs current assets
to carry out business operations. These assets are held for consumption of for sale and
are expected to be realized in cash during the normal operating cycle. Current assets
include inventories, debtors, cash etc. Loans and advances refer to those assets which
are held for a short term and are expected to be realized within one year. These
include advance payments, loans to subsidiary companies etc. Both the sub headings-
current assets as well as loans and advances must be shown separately under two sub-
heads- (a) Current Assets (b) Loans and Advances. It includes interest accrued on
investment, inventories, sundry debtors, bills receivable, cash and bank balances
while loans and advances and other advances like prepaid expenses, etc.

4. Miscellaneous Expenditure: The expenditure which has not been fully written
off shown under this heading. It includes preliminary expenses, advertisement
expenditure, discount on issue of shares and debentures, share issue expenses, etc.

5. Profit and Loss Account: When the Profit and Loss account shows a debit
balance, i.e., loss which could not be adjusted against general reserves, is shown on
the asset side of the Balance Sheet.

Illustration 1. Give three examples of each of the following (1) current liabilities; (2)
contingent liabilities; (3) current assets; (4) miscellaneous expenditure; (5) provisions.
Solution :
Headings Examples
1. Current liabilities

2. Contingent liabilities

3. Current assets

4. Miscellaneous Expenditure

5. Provisions 1. Sundry creditors


2. Bill payable
3. Unclaimed dividend
1. Claims against company not acknowledge as debt
2. Uncalled liability on partly paid shares
3. Estimated amount of contract remaining to be executed.
1. Stock in trade.
2. Cash at bank
3. Stores and spare parts
1. Preliminary expenses
2. Discount allowed on issue of shares and debentures
3. Underwriting commission
1. Provision for taxation
2. Proposed dividend
3. Provident fund.

Illustration 2. Under which heading and sub-heading will you show the following
items:
(1) Share forfeited account; (2) Securities premium account; (3) Unclaimed dividend
(4) Proposed dividend (5) Arrears of fixed cumulative dividend on preference shares.
Solution :
S.No. Items Heading Sub-heading
1. Share forfeited account Share Capital --
2. Securities premium account Reserves and surplus --
3. Unclaimed dividend Current Liabilities and provisions Current liability
4. Proposed dividend Current Liabilities and Provisions Provisions
5 Arrears of fixed cumulative
Dividend on preference shares Contingent liability --

Illustration 3. Give the headings and sub-headings under which the following will be
shown in a company’s balance sheet as per Schedule VI Part I of the Company’s Act
1956. (i) 10% debentures (ii) preliminary expenses (iii) Plant and Machinery (iv)
Capital reserve (v) bills payable (vi) general reserve (vii) interest paid out of capital
during construction (viii) railway sidings (ix) stores & spare part (x) fixed deposits.

Solution:
S.No. Items Headings Sub-Headings
(i) 10 % Debentures Secured Loans--
(ii) Preliminary expenses Miscellaneous Expenditure --
(iii) Plant & Machinery Fixed assets --
(iv) Capital Reserve Reserves and Surplus --
(v) Bills Payable Current liabilities and provisions Current liabilities
(vi) General reserve Reserves & surplus --
(vii) Interest paid out of capital during construction Miscellaneous
expenditure --
(viii) Railway sidings Fixed assets --
(ix) Store and spare parts Current assets, loans & advances Current assets
(x) Fixed deposits Unsecured loans --

Illustration 4. The following figures were extracted from the trial balance of X Ltd.
share capital 10,000 equity shares of Rs. 10 each fully paid :
Securities premium Rs. 10,000
12% Debentures Rs. 50,000
Fixed deposits Rs. 25,000
Creditors Rs. 5,000
You are required to draw up the liabilities side of the balance sheet, according to the
requirements of the Companies Act.
Solution :
AN EXTRACT OF BALANCE SHEET OF X LTD. AS AT ……
Liabilities Rs.
SHARE CAPITAL:
Authorized Capital
……equity shares of Rs. 10 each

Issued and subscribed


10,000 equity shares of Rs. 10 each

RESERVES AND SURPLUS:


Securities premium

SECURED LOANS:
12% DEBENTURES
UNSECURED LOANS:
Fixed deposits
CURRENT LIABILITIES AND PROVISIONS:
(A) Current liabilities
Sundry creditors
(B) Provisions

1,00,000

10,000

50,000

10,000

5,000
---
Illustration 5. The following ledger balances were extracted from the books of Rushil
Ltd.
On 31st March, 2007.

Land and Building Rs. 2,00,000; 12% debentures Rs. 2,00,000; Share Capital
1,00,000 equity shares Rs. 10 each fully paid; Plant and Machinery Rs. 8,00,000;
Goodwill Rs. 2,00,000;Investments in shares of Raja Ltd. Rs.2,00,000; Bills
Receivable Rs 50,000; Debtors Rs. 1,50,000; Creditors Rs 1,00,000; Bank Loan
(Unsecured) Rs 1,00,000; Provision for taxation Rs. 50,000; Discount on issue of
12% debentures Rs. 5000; Proposed dividend Rs. 55,000. Stock Rs. 1,00,000 General
Reserve Rs 2,00,000.
You are required to prepare the Balance Sheet of the company as per schedule VI Part
I of the Companies act 1956.

Solution:
RUSHIL LTD.
BALANCE SHEET AS AT 31ST MARCH,2007
Liabilities Rs. Assets Rs.
SAHRE CAPITAL:
Authorized Capital
Issued Capital
Subscribed Capital
1,00,000 Equity shares of
Rs.10 each

RESERVES AND SURPLUS:


General reserve

SECURED LOANS:
12% Debentures

UNSECURED LOANS:
Bank Loan

CURRENT LIABILITIES AND


PROVISIONS:
(A) Current liabilities
Creditors
(B)Provisions
Proposed dividend
Provision for taxation
______?___
10,00,000

10,00,000

2,00,000

2,00,000
1,00,000

1,00,000

55,000
50,000 FIXED ASSETS:
Goodwill
Land and Building
Plant and Machinery

INVESTMENTS:
Shares of Raja Ltd.

CURRENT ASSETS, LOANS AND ADVANCES:


(A) Current assets:
Stock-in-Trade
Debtors
(B) Loans and Advances
Bill Receivables

MISCELLANEOUS EXPENDITURE:
Discount on issue of 12%
Debentures
2,00,000
2,00,000
8,00,000

2,00,000

1,00,000
1,50,000

50,000

5,000

17,05,000 17,05,000

Illustration 6. X Ltd. has an authorized capital of Rs. 10,00,000 divided into Equity
Shares of Rs. 10 each. The company invited applications for 50,000 shares.
Applications for 45,000 shares were received. All calls were made and were duly
received except the final call of Rs. 2 per share on 1,000 shares. 500 of the shares on
which the final call was not received were forfeited. Show how share capital will
appear in the Balance Sheet of the Company as per schedule VI part I of the
Companies Act 1956?

Solution:
X LTD.
BALANCE SHEET AS ON …………………
Liabilities Amount
Rs. Assets Amount Rs.
SAHRE CAPITAL:
Authorized Capital
1,00,000 Equity Shares of Rs. 10 each

Issued Capital :
50,000 Equity Shares of Rs. 10 each

Subscribed Capital:
44,500 Equity Shares of Rs. 10 each
4,45,000
Less: Calls in Arrears 1,000
4,44,000
Add: Share Forfeited A/c 4,000

10,00,000

5,00,000

4,48,000

Illustration 7. From the following balances taken from the books of Gujarat Exports
Ltd. prepare Company’s Balance Sheet in Horizontal Form:

Rs. Rs.
Land and Buildings 3,25,000 Patents 7,200
Plant and Machinery 2,90,000 Investments 20,000
Sundry Debtors 65,000 Preliminary Expenses 2,000
8,000 Equity Shares of Rs. 100 Securities premium 20,000
each Rs. 50 called up 4,00,000 Provision for Income tax 24,000
15% debentures 1,00,000 Closing Stock 1,28,000
Debenture Redemption Reserve 50,000 Cash 12,000
Prepaid Insurance 4,800 Advance Income Tax 4,000
Profit & Loss (Cr.) 1,13,000 Sundry Creditors 15,200
Bills Payable 15,000 Outstanding expenses 4,800
General Reserve 1,00,000 Proposed Dividend 16,000

Investments are in partly-paid shares on which calls of Rs. 10,000 have not been
made.

Solution:
BALANCE SHEET OF GUJARAT EXPORTS LTD.

As at ………………in horizontal form

Liabilities Rs. Assets Rs.


SAHRE CAPITAL:
Authorized Capital
Issued Capital
8,000 Equity shares of
Rs.100 each
Subscribed Capital
8,000 Equity shares of
Rs.100 each, Rs. 50 called up

RESERVES AND SURPLUS:


Securities Premium
General Reserve
Profit & Loss A/c
Debenture Redemption Reserve

SECURED LOANS:
15% Debentures

UNSECURED LOANS:

CURRENT LIABILITIES AND


PROVISIONS:
(A) Current liabilities
Bills payable
Sundry Creditors
Outstanding Expenses

(B)Provisions
Provision for Income tax
Proposed dividend

______?___

8,00,000

4,00,000

20,000
1,00,000
1,13,000
50,000

1,00,000

15,000
--

15,000
15,200
4,800
24,000
16,000 FIXED ASSETS:
Land and Building
Plant and Machinery
Patents

INVESTMENTS:

CURRENT ASSETS, LOANS AND ADVANCES:


(A) Current assets:
Closing Stock
Sundry Debtors
Cash

(B) Loans and Advances


Prepaid Insurance
Advance Income Tax

MISCELLANEOUS EXPENDITURE:
Preliminary Expenses
3,25,000
2,90,000
7,200

20,000

1,28,000
65,000
12,000

4,800
4,000

2,000

8,58,000 8,58,000

Note: Contingent Liabilities: For partly-paid shares Rs. 10,000

RATIO ANALYSIS

1.4 Ratio analysis is not just comparing different numbers from the balance sheet,
income statement and cash flow statement. It is comparing the number against
previous years , other companies, the industry , or even the economy in general.
Ratios look at the relationships between individual values and relate them to how a
company has performed in the past and might perform in the future.

For example current assets alone don’t tell us a whole lot , but when we divide them
by the current liabilities we are able to determine whether the company has enough
money to cover short debts. Therefore we can say that when one figure is expressed in
terms of another figure by dividing each other the relation which is established
between them is called ration.

1.5 Meaning of Ratio Analysis

Ratio Analysis is the relationship between two terms of financial data expressed in the
form of ratios and then interpreted with a view to evaluating the financial condition
and performance of a firm.

Ratio Analysis can also help us to check whether a business is doing better this year
than it was last year; and it can tell us if our business is doing better or worse than
similar type of business.

Example : Firm A earns a profit of Rs. 50,000 while Firm B earns a profit of Rs.
1,00,000. Which of them is more efficient? We could tend to believe that firm B is
more efficient than firm A. But in order to understand correctly , we need to find out
their sales figure. Say firm A’s sales are Rs. 5,00,000 while firm B’s sale are Rs.
50,00,000. Now let’s compare the percentage of profit earned by them on sales.

For A: 50,000 X 100 = 10 %


5,00,000

For B: 1,00,000 X 100 = 2 %


50,00,000

This clearly shows that firm A is doing better than Firm B.


This example shows that figure assumes significance only when expressed in relation
to other related figures.

1.5.1 Objective of Ratio Analysis :


The main objective of analyzing financial statement with the help of ratios are:

1. The analysis would enable the calculation of not only the present earning
capacity of the business but would also help in the estimation of the future earning
capacity.
2. The analysis would help the management to find out the overall as well as the
department – wise efficiency of the firm on the basis of the available financial
information.
3. The short term as well as the long tem solvency of the firm can be determined
with the help of ration analysis.
4. Inter – firm comparison becomes easy with the help of ratios.

1.5.2 Advantages of Ration Analysis:

Financial statement prepared at the end of the year do not always convey to the reader
the real profitability and financial health of the business. They contain various facts
and figures and it is for the reader to conclude what these figures indicated. Ratio
Analysis is an important tool for analyzing these financial statements .Some important
advantage derived by the firm by the use of accounting ratios are:
1. Help in Financial statement analysis
It is east to understand the financial position of a business enterprise in respect of
short term solvency, liquidity and profitability with the help of ratio. It tells us the
changes taking place in the financial condition of the business.

2. Simplified accounting figures


Absolute figures are not of mush use. They become important when relationships are
established say between gross profit and sales.

3. Helps in calculating operation efficiency of the business enterprise


Ratio enable the user of financial information to determine operating efficiency of a
firm by relating the profit figure to the capital employed for a given period.

4. Facilities inter- firm comparison


Ratio analysis provides data for inter- firm comparison. It revels strong and weak
firms, overvalues and undervalues firms as well as successful and unsuccessful firms.

5. Makes inter- firms comparison possible


Ratio Analysis helps the firm to compare its own performance over a period of time a
swell as the performance of different divisions of the firm. It helps in deciding which
division are more efficient than other.

6. Helps in forecasting
Ratio Analysis helps in planning and forecasting . Ratios provides clues on trends and
futures problems . e.g if the sales of a firm during the year are Rs. 10 lakhs and he
average stock kept during the year Rs. 2 lakhs, it must be ready to keep a stock of Rs.
3 lakhs which is 20 % of the Rs. 15 lakhs.

1.5.3 Limitations of Ratio Analysis

Ratio Analysis is a useful technique to evaluate the performance and financial


position of any business unit but it does suffer from a number of limitations. These
must be kept in mind while analysing financial statements.

1. Historical Analysis
Ratio Analysis is historical in nature a the finicial statement on the basis of which
ratios are calculated are historical in nature.

2. Price Level Change


Changes in price level often make comparison of figures of the previous years
difficult. E.g ratio of sales to fixed assets in 2006 would be much higher than in 2000
due to rising prices, fixed assets being expressed on cost.

3. Not Free from bias


In many situations, the accountant has to make a choice out of the various
alternatives available . e.g choice of the method depreciation, choice in the method of
inventory valuation etc. Since there is a subjectivity inherent in the choice , ratio
analysis cannot be said to be free from bias.

4. Window dressing
Window dressing is slowly the position better than what it is. Some companies , in
order to cover up their bad finicial position resort to window dressing. By hiding
important facts, they try to depict a better financial position.

5. Qualitative factors ignored


Ratio Analysis is a quantitative analysis. It ignores qualitative factors like debtors
character, honesty, past record etc.

6. Different accounting practices render ratios incomparable


The result of two firms are comparable with the help of accounting ratios only if they
follow the same accounting methods . e.g. if one firm changes depreciation on straight
line method while another is charging on diminishing balance method, accounting
ratios will not be strictly comparable.

1.6 Classification of Ratios

Different types of ratios are computed depending on the purpose for which they are
needed. Broadly speaking ,they are grouped under four heads:
1. Liquidity ratios
2. Solvency ratios
3. Turnover or Activity ratios
4. Profitability ratios

1.6.1 LIQUIDITY RATIOS

Liquidity is the short term solvency of the enterprise. I.e. the ability of the business
enterprise to meet its short term obligation as and when they are due. The liquidity
ratios, therefore , are also called the short- term solvency ratios.

The most common ratios which measures the extent of liquidity or the lack of it are:
a) Current ratio
b) Quick ratio/ Acid test ratio

Current Ratio
Current ratio establishes the relationship between current assets and Current liability.
It measures the ability of the firm to meet its short term obligation as and when they
become due. It is calculated as:

Current ratio= Current Assets


Current liabilities

Current assets include cash and those assets which can be converted into cash within
a year. Current assets will therefore include cash , bank, stick(raw materials , work in
progress and finished goods), debtors(less provision), bills receivable, marketable
securities, prepaid expenses, short term loans and advances and accrued incomes.

Current liability include all those liabilities maturing with in one year.
Current liabilities include creditors, bills payable, outstanding expenses, income
received in advance , bank overdraft, short-term loans, provision for tax , proposed
dividend and unclaimed dividend.
Generally , a current ratio of 2:1 is considered satisfactory.

Interpretation: It provides a measure of degree to which current assets cover current


liabilities. The higher the ratio , the greater the margin of safety for the short term
creditors. However, the ratio should neither be very high nor very low. A very high
current ratio indicates idle funds , piled up stocks, locked amount in debtors while a
low ratio puts the business in a situation where it will not be able to pay its short-
term debt on time.

Illustration 1

Calculate current ratio from the following information:

Stock Rs .60,000 ; Cash 40,000; Debtors 40,000; Creditors 50,000


Bills Receivable 20,000; Bills Payable 30,000; Advance Tax 4,000
Bank Overdraft 4,000; Debentures Rs. 2,00,000; Accrued interest Rs. 4,000.

Solution

Current Assets = Rs.60,000 + Rs.40,000 + Rs.40,000 + Rs.20,000 + Rs.4,000 +


Rs.4,000
= Rs.1,68,000
Current Liabilities = Rs.50,000 + Rs.30,000 + Rs.4,000 = Rs. 84,000
Current Ratio = Rs.1,68,000 : Rs.84,000 = 2 : 1.

Illustration 2

Current Assets of a company are Rs. 10,00,000 and current liabilities are Rs.
6,00,000. The management is interested in making the ratio 2:1 by making payment of
certain current liabilities. Advise the management as to how much of current
liabilities should be paid to attain the desired ratio.
Solution

Let the current liabilities to be paid = x


10,00,000-x = 2
6,00,000-x
10,00,000-x = 2(6,00,000-x )
10,00,000-x = 12,00,000-2x
x = 2,00,000

Quick Ratio / Acid test ratio/Liquid ratio


Quick ratio establishes the relationship between quick/ liquid assets and current
liabilities. It measures the ability of the firm to meet its short term obligations as and
when they become due without relying upon the realization of stock. It is calculated
as:
Quick ratio = Quick Assets
Current Liabilities
The quick assets are defined as those assets which can be converted into cash
immediately or reasonably soon without a loss of value. For calculating quick assets
we exclude the closing stock and prepaid expenses from the current assets.
Generally, a liquid ratio of 1:1 is considered satisfactory.

Interpretation: Quick ratio is considered better than current ratio as a measure of


liquidity position of the business because of exclusion of inventories. The idea behind
this ratio is that stock are sometimes a problem because they can be difficult to sell or
use. That is , even through a supermarket has thousand of people walking through its
doors every day, there are still items on its shelves that don’t sell as quickly as the
supermarket would like. Similarly, there are some items that will sell very well.
Nevertheless , there are some business whose stocks will sell or be used slowly and if
those businesses needed to sell some of their stocks to try to cover an emergency, they
would be disappointed. It us a more penetrating test of liquidity than current ratio yet
it should be used cautiously as all debtors may not be liquid or cash may be required
immediately for certain expenses.

Illustration 3

Calculate quick ratio from the information given in illustration 1.

Solution
Quick Assets = Current Assets – Stock – Advance Tax
Quick Assets = Rs. 1,68,000 – (Rs. 60,000 + Rs. 4,000) = Rs. 1,04,000
Current Liabilities = Rs. 84,000
Quick ratio = Quick Assets / Current Liabilities
= Rs. 1,04,000 : Rs. 84,000
= 1.23:1

Illustration 4

X Ltd. has a current ratio of 3.5:1 and quick ratio of 2:1. If excess of current assets
over quick assets represented by stock is Rs. 1,50,000, calculate current assets and
current liabilities.

Solution
Let Current Liabilities = x
Current Assets = 3.5x
And Quick Assets = 2x
Stock = Current Assets – Quick Assets
1,50,000 = 3.5x – 2x
1,50,000 = 1.5x
x = Rs.1,00,000
Current Assets = 3.5x = 3.5 × 1,00,000 = Rs. 3,50,000.

Illustration 5

Calculate the current ratio from the following information :


Working capital Rs. 9,60,000; Total debts Rs.20,80,000; Long-term Liabilities
Rs.16,00,000; Stock Rs. 4,00,000; prepaid expenses Rs. 80,000.
Solution
Current Liabilities = Total debt- Long term debt
= 20,80,000 – 16,00,000
= 4,80,000

Working capital = Current Assets – Current liability


9,60,000 = Current Assets – 4,80,000
Current Assets = 14,40,000

Quick Assets = Current Assets – (stock + prepaid expenses)


= 14,40,000 – (4,00,000 + 80,000)
= 9,60,000

Current ratio = Current Assets / Current liabilities


= 14,40,000/4,80,000
= 3:1
Quick ratio = Quick Assets / Current liabilities
= 9,60,000/4,80,000
= 2:1

1.6.2 Solvency Ratios

Solvency ratio are used to judge the long term financial soundness of any business.
Long term Solvency means the ability of the
Enterprise to meet its long term obligation on the due date. Long term lenders are
basically interested in two things: payment of interest periodically and repayment of
principal amount at the end of the loan period. Usually the following ratios are
calculated to judge the long term financial solvency of the concern.

1. Debt equity ratio;


2. Total Assets to Debt Ratio;
3. Proprietary ratio;
4. Interest Coverage Ratio.

Debt-Equity Ratio

Debt Equity Ratio measures the relationship between long-term debt and
shareholders’ funds. It measures the relative proportion of debt and equality in
financing the assets of a firm.
It is computed as follows:

Debt-Equity ratio = Long-term Debt’s/ Share holder funds

Where –
Long- term Debt = Debentures + Long – term loans

Shareholders Funds = Equity Share Capital + Preference Share Capital +


Reserves and Surplus– Fictitious Assets
Interpretation: A low debt equity ratio reflects more security to long term creditors.
From security point of view, capital structure with less debt and more equity is
considered favourable as it reduces the chances of bankruptcy.

A high ratio, on the other hand, is considered risky as it may put the firm into
difficulty in meeting its obligations to outsiders. However, from the perspective of the
owners, greater use of debt, firm can enjoy the benefits of trading on equity which
help in ensuring higher returns for them if the rate of earning on capital employed is
higher than the rate of interest payable. But it is considered risky and so , with the
exception of a few business , the prescribed ratio is limited to 2:1.

Illustration 6
Calculate Debt Equity , from the following information:
10,000 preference share of Rs. 10 each Rs. 1,00,000
5,000 equity shares of Rs. 20 each Rs. 1,00,000
Creditors Rs. 45,000
Debentures Rs. 2,20,000
Profit and Loss accounts(Cr.) Rs. 70,000

Solution

Debt = Debentures = Rs. 2,20,000


Equity = Equity share capital + Preferences Share Capital + profit and Loss accounts
= Rs. 1,00,000 + Rs. 1,00,000 + Rs. 70,000
= Rs. 2,70,000

Debt Equity Ratio = Long term debt/ shareholders’ funds


= Rs. 2,20,000 / Rs. 2,70,000
= 0.81:1

Illustration 7
Calculate Debt Equity Ratio, from the following information :
Total Debts Rs. 3,00,000 ; Total assets Rs. 5,40,000; Current liabilities Rs. 70,000.

Solution
Long-term Debt = Total Debt – Current Liabilities
= Rs. 3,00,000 – Rs. 70,000 = Rs. 2,30,000

Shareholders Funds = Total Assets – Total Debts


= Rs. 5,40,000 – Rs. 3,00,000
= Rs. 2,40,000

Debt Equity Ratio = Long term debt/ Shareholders’ funds


= Rs. 2,30,000/Rs. 2,40,000
= 0.96:

Total Assets to Debt Ratio

This Ratio established a relationship between total assets and long debts. It measures
the extend to which debt is being covered by assets. It is calculated as
Total Assets to Debt Ratio = Total assets
Long-term Debt

Interpretation: This ratio primarily indicated the use of external funds in financing the
assets and the margin of safety to long-term creditors. The higher ratio indicated that
assets have been mainly financed by owners’ funds , and the long- tem debt is
adequately covered by assets. A low ratio indicated a grater risk to creditors as it
means insufficient assets for long term obligations.

Illustration 8

Shareholders’ funds Rs. 80,000; Total debts Rs. 1,60,000; Current liabilities Rs.
20,000. Calculate Total assets to debt ratio.

Solution
Long term debt = Total Debt - Current liabilities
= Rs. 1,60,000- Rs. 20,000
= Rs. 1,40,000

Total Assets = Shareholders’ funds + Total debt


= Rs. 80,000 + Rs. 1,60,000
= Rs. 2,40,000

Total Assets to debt ratio = Total Assets/ Debt


= Rs. 2,40,000 / Rs. 1,40,000
= 12:7
= 1.7:1

Proprietary Ratio
Proprietary ratio establishes a relationship between shareholders funds to total
assets . It measures the proportion of assets financed by equity. It is calculated as
follows :

Proprietary Ratio = Shareholders Funds/ Total assets


Interpretation: A higher proprietary ratio indicated a larger safety margin for
creditors. It tests the ability of the shareholders’ funds to meet the outside liabilities. A
low Proprietary Ratio , on the other hand , indicated a grater risk to the creditors. To
judge whether a ratio is satisfactory or not, the firm should compare it with its own
past ratios or with the ratio of similar enterprises or with the industry average.

Based on data of Illustration 8, it shall be worked out as follows:

Rs. 80,000 / Rs. 2,40,000 = 0.33: 1

Illustration 9

From the following balance sheet of a company, calculate debt equity ratio, total
assets to debt ratio and proprietary ratio

Balance Sheet of X ltd as on 31.12.2007


Preference Share Capital 7,00,000 Plant and Machinery 9,00,000
Equity Share Capital 8,00,000 Land and Building 4,20,000
Reserves 1,50,000 Motor Car 4,00,000
Debentures 3,50,000 Furniture 2,00,000
Current Liability 2,00,000 Stock 90,000
Debtors 80,000
Cash and Bank 1,00,000
Discount on Issue of Shares 10,000
22,00,000 22,00,000

Solution

Debt equity Ratio = Long-term Debt/Equity

Total Assets Ratio= Total Assets / long term Debt

Proprietary Ratio = Shareholders Funds/Total assets

Debt equity ratio = Rs. 3,50,000/Rs. 16,40,000 = 0.213

Total Assets Ratio= Rs. 21,90,000/ Rs. 3,50,000 = 6.26

Proprietary Ratio = Rs. 16,40,000/Rs. 21,90,000 = 0.749

Illustration 10

From the following information, calculate Debt Equity Ratio, Debt Ratio,Proprietary
Ratio and Ratio of Total Assets to Debt.

Balance Sheet as on December 31, 2006

Equity share Capital 3,00,000 Fixed Assets 4,50,000


Preference Share Capital 1,00,000 Current Assets3,50,000
Reserves 50,000 Preliminary Expenses 15,000
Profit & loss A/C 65,000
11 % Mortgage Loan 1,80,000
Current liabilities 1,20,000
8,15,000 8,15,000

Solution

Shareholders Funds = Equity Shares capital + Preference Shares capital +


Reserves + profit % loss A/C - Preliminary Expenses

= Rs. 3,00,000 + Rs. 1,00,000 + Rs.50,000 + Rs. 65,000- Rs. 15,000


= Rs. 5,00,000

Debt Equity Ratio = Debt / Equity


= Rs. 1,80,000/Rs. 5,00,000 = 0.36: 1
Proprietary Ratio = Proprietary funds / Total Assets
= Rs. 5,00,000/Rs. 8,00,000
= 0.625:1

Total Assets to Debt Ratio = Total Assets / Debt


= Rs. 8,00,000/Rs. 1,80,000
= 4.44:1

Illustration 11

The debt equity ratio of X Ltd. is 1:2. Which of the following would increase/
decrease or not change the debt equity ratio?

(i) Issue of new equity shares


(ii) Cash received from debtors
(iii) Sale of fixed assets at a profit
(iv) Redemption of debentures
(v) Purchase of goods on credit.

Solution

a) The ratio will decrease. This is because the debt remains the same, equity
increases.
b) The ratio will not change . This is because neither the debt nor equality is
affected.
c) The ratio will decrease . This is because the debt remains unchanged while
equity increases by the amount of profit.
d) The ratio will decrease . This is because debt decreases while equity remains
same .
e) The ratio will not change . This is because neither the debt nor equity is
affected.

Interest Coverage Ratio

Interest Coverage Ratio established a relationship between profit before interest on


long-term debt and taxes and the interest on long term debts. It measures the debt
servicing capacity of the business in respect of fixed interest on long term debts. It
generally expressed as ‘ number of times’.
It is calculated as follows:
Interest Coverage Ratio = Net Profit before Interest and Tax / Interest on long term
debt

Interpretation : It reveals the number of times interest on long-term debt is covered by


the profits available for interest. It is a measure of protection available to the creditors
for payment of interest on long term loans. A higher ratio ensures safety of interest
payment debt and it also indicates availability of surplus for shareholders.

Illustration 12

Net Profit as per Profit & Loss A/C Rs. 5,40,000;


Provision for tax Rs, 2,10,000;
Interest on Debentures and other long terms loans Rs. 1,50,000
Calculate interest coverage ratio.

Solution

Profit before interest and tax = Rs. 5,40,000 + Rs. 2,10,000 + Rs. 1,50,000 = Rs.
9,00,000
Interest coverage Ratio = Net Profit before Interest and Tax/ interest on long term
debt
= Rs. 9,00,000 / Rs. 1,50,000
= 6 times.

Illustration 13
Calculate interest coverage ratio from the following information:
Net Profit after tax Rs. 30,000; 15% Long-term Debt 10,00,000; and Tax Rate
60%.

Solution

Net Profit after tax = Rs. 30,000


Tax Rate = 60%.
Net Profit before tax = Net Profit after tax X 100 / (100 – tax rate)
= Rs. 30,000 X 100 / ( 100- 60)
= Rs. 75,000
Interest on Long Term Debt = 15% of Rs. 10,00,000 = Rs. 1,50,000
Net profit before interest and tax = Net profit before tax + Interest
= Rs. 75,000 + Rs. 1,50,000
= Rs. 2,25,000
Interest Coverage Ratio = Net Profit before Interest and Tax/Interest on long term
debt
= Rs. 2,25,000/Rs. 1,50,000
= 1.5 times.

1.6.3 Activity (or Turnover) Ratios

The Activity (or Turnover) Ratios measures how well the facilities at the disposal of
the concern are being utilized. They are known as turnover ratios as they indicates the
speed with which the assets are being converted or turned over into sales. A proper
balanced between sales and assets generally reflects tat assets are being managed
well. They are expressed as ‘number of times’. Some of the important activity ratios
are:

1. Stock Turn-over;
2. Debtors (Receivable) Turnover;
3. Creditors (Payable) Turnover;
4. Fixed Assets Turnover;
5. Working Capital Turnover.

Stock (or Inventory) Turnover Ratio


It establishes a relationship between cost of goods and average inventory. It
determines the efficiency with which stock is converted into sales during the
accounting period under consideration. It is calculated as:
Stock Turnover Ratio = Cost of Goods Sold/ Average Stock
Where - Average stock = (opening + closing stock) /2 and
Cost of goods sold = Net Sales - gross profit or
Cost of goods sold = opening stock + net purchases + direct expenses
– closing stock

Interpretation : It indicates the speed with which inventory is converted into sales. A
higher ratio indicated that stock is selling quickly. Low stock turnover ratio indicates
that stock is not selling quickly and remaining idle resulting in increased storage cost
and blocking of funds. High turnover is good but it must be carefully interpreted as it
may be due to buying in small lots or selling quickly at low margin to realize cash.
Thus , a firm should have neither a very high nor a vet low stock turnover ratio.

Illustration 14

From the following information, calculate stock turnover ratio :


Opening Stock Rs.20,000;Closing Stock Rs.10,000;Purchases Rs. 50,000 Wages Rs.
13,000; sales Rs. 80,000 ; Carriage Inwards Rs. 2,000 ; Carriage outwards Rs. 6,000

Solution

Stock Turnover Ratio = Cost of Goods Sold/ Average Stock


Cost of Goods Sold = Opening Stock + Purchases – Closing Stock + Direct
Expenses
= Rs. 20,000+ Rs.50,000+ Rs.15,000–Rs.10,000
= Rs. 75,000

Average Stock = (Opening Stock + Closing Stock) /2


= (Rs. 20,000 + Rs. 10,000) /2
= Rs. 15,000

Stock Turnover Ratio = Rs. 75,000/Rs. 15,000


= 5 Times.

Illustration 15

From the following information, calculate stock turnover ratio.


Opening stock Rs 58,000; Excess of Closing stock opening stock Rs. 4,000; sales Rs.
6,40,000; Gross Profit @ 25 5 on cost

Solution

Cost of goods Sold = Sales - Gross Loss


= Rs. 6,40,000 – 25/125(6,40,000)
= Rs. 5,12,000
Closing stock = Opening stock + Rs. 4000
= Rs. 58,000 + Rs 4,000
= Rs. 62,000

Average stock = (Opening stock + Closing Stock )/2


= (58,000 +62,000)/2
= Rs. 60,000

Stock Turnover Ratio = Cost of Goods Sold/ Average Stock


= Rs.5,12,000/Rs. 60,000 = 8.53 times.

Illustration 16

A trader carries an average stock of Rs. 80,000. His stock turnover is 8 times. If he
sells goods at profit of 20% on sales. Find out the profit.

Solution

Stock Turnover Ratio = Cost of Goods Sold/ Average Stock


= Cost of Goods Sold/Rs. 80,000
Cost of Goods Sold = Rs. 80,000 × 8
= Rs. 6,40,000
Sales = Cost of Goods Sold × 100/80
= Rs. 6,40,000 × 100/80
= Rs. 8,00,000

Gross Profit = Sales – Cost of Goods Sold


= Rs. 8,00,000 – Rs. 6,40,000
= Rs. 1,60,000.

Debtors Turnover Ratio or Receivables Turnover Ratio


It establishes a relationship between net credit sales and average debtors or
receivables. It determine the efficiency with which the debtors are converted into
cash.
It is calculated as follows :
Debtors Turnover ratio = Net Credit sales/ Average Accounts Receivable

Where Average Account Receivable = (Opening Debtors and Bills Receivable +


Closing Debtors and Bills Receivable)/2

Note: Debtors should be taken before making any provision for


doubtful debts.
Interpretation : The ratio indicated the number of times the
receivables are turned over and converted into cash in an accounting period. Higher
turnover means that the amount from debtors is being collected more quickly. Quick
collection from debtors increases the liquidity of the firm. This ratio also helps in
working out the average collection period as follows:

Debt collection period


This shows the average period for which the credit sales remain outstanding or the
average credit period enjoyed by the debtors. It indicates how quickly cash is
collected from the debtors.
It is calculates as follows:

Debt collection period = 12 months/52 weeks/365 days


Debtors’ turnover ratio

Illustration 17
Calculate the Debtors Turnover Ratio and debt collection period (in months) from the
following information:
Total sales = Rs. 2,00,000
Cash sales = Rs. 40,000
Debtors at the beginning of the year = Rs. 20,000
Debtors at the end of the year = Rs. 60,000

Solution

Average Debtors = (Rs. 20,000 + Rs. 60,000)/2 = Rs. 40,000

Net credit sales = Total sales - Cash sales


= Rs.2,00,000 - Rs.40,000
= Rs. 1,60,000

Debtors Turnover Ratio = Net Credit sales/Average Debtors


= Rs. 1,60,000/Rs. 40,000
= 4 Times.

Debt collection period = 12 months/52 weeks/365 days


Debtors’ turnover
= 12/4
= 3 months

Creditors Turnover Ratio or Payable Turnover Ratio

This ratio establishes a relationship between net credit


purchases and average creditors or payables. It determine the efficiency with which
the Creditors are paid.

It is calculated as follows :

Creditors turnover ratio = Net credit purchase / Average accounts payable.

Where Average accounts payable = (Opening Creditors and Bills Payable +


Closing Creditors and Bills Payable)/2

Interpretation: It indicated the speed with which the creditors are paid. A higher ratio
indicates a shorter payment period. In this case, the enterprise needs to have sufficient
funds as working capital to meet its creditors. Lower ratio means credit allowed
by the supplier is for a long period or it may reflect delayed payment to suppliers
which is not a very good policy as it may affect the reputation of the business. Thus ,
an enterprise should neither have a very high nor a very low ratio.

Debt payment period/Creditors collection period

This shows the average period for which the credit purchases remain outstanding or
the average credit period availed of. It indicate how quickly cash is paid to the
creditors.

It is calculated as follows:

Debt collection period = 12 months/52 weeks/365 days


Debtors’ turnover

Illustration 18

Cash purchased ratio Rs. 1,00,000; cost of goods sold Rs. 3,00,000; opening stock Rs.
1,00,000 and closing stock Rs. 2,00,000. Creditors turnover ratio 3 times. Calculate
the opening and closing creditors if the creditors at the end were 3 times more than the
creditors at the beginning.

Solution
Total Purchase = Cost of goods sold + closing stock - opening stock
= Rs. 3,00,000 + Rs. 2,00,000 – Rs. 1,00,000
= Rs. 4,00,000

Credit purchases = Total Purchase - cash purchase


= Rs. 4,00,000- Rs. 1,00,000
= Rs. 3,00,000

Creditor Turnover Ratio = Net Credit Purchase / Average Creditor

Average Creditor = Rs. 3,00,000/ 3


= Rs. 1,00,000

(opening Creditor + Closing Creditor)/2 = Rs. 1,00,000


opening Creditor + Closing Creditor = Rs. 2,00,000
opening Creditor + (opening Creditor + 3opening Creditor) = Rs. 2,00,000
opening Creditor = Rs. 40,000
Closing Creditor = Rs. 40,000 +(3 X Rs. 40,000)
= Rs. 1,60,000

Fixed Assets Turnover Ratio


This ratio establishes a relationship between net sales and net fixed assets. It
determined the efficiency with which the firm is utilizing its fixed assets.
It is computed follows
Fixed Assets Turnover= Net sales/ Net Fixed Assets
Where Net Fixed Assets =Fixed Assets- Depreciation
Interpretation: This ratio reveals how efficiently the fixed assets are being utilised.
It indicates the firms’ ability to sales per rupee of investment in fixed assets. A high
ratio indicates more efficient utilization of fixed assets.

Illustration 19

From the following information, calculate Fixed Assets Turnover Ratio:


Gross fixed asset Rs. 4,00,000; Accumulated Depreciation Rs. 1,00,000; Marketable
securities Rs. 20,000; Current Assets Rs. 1,30,000; Miscellaneous expenditure Rs,
20,000; Current Liabilities Rs. 50,000; Gross sales Rs. 18,30,000; sale return Rs.
30,000

Solution

Net fixed asset= Gross fixed asset- Depreciation


= Rs. 4,00,000 - Rs. 1,00,000
= Rs.3,00,000
Net Sale = Gross sale – Sale Returns
= Rs. 18,30,000 - Rs. 30,000
= Rs. 18,000

Fixed Asset Turnover Ratio= Net Sale/ net Fixed assets


= Rs. 18,30,000/ Rs.3,00,000
= 6 times.

Working Capital Turn Over Ratio

This ratio establishes the relationship between net Sale and working capital. It
determines the efficiency with which the working capital is being utilised.
It is calculated as followers:
working capital Turnover = Net Sale/ working Capital

Interpretation: This ratio indicates the firms’ ability to generate sales per rupee of
working . A higher ratio would normally indicate more efficient utilized of working
capital ; through neither a very high nor a very low ratio is desirable.

Illustration 20
From the following information, calculate (i) Fixed Assets Turnover and (ii) Working
Capital Turnover Ratios :
Preference Shares Capital 6,00,000 Plant and Machinery 6,00,000
Equity Share Capital 4,00,000 Land and Building 7,00,000
General Reserve 2,00,000 Motor Car 2,50,000
Profit and Loss Account 2,00,000 Furniture 50,000
15% Debentures 3,00,000 Stock 1,70,000
14% Loan 1,00,000 Debtors 1,20,000
Creditors 1,40,000 Bank 90,000
Bills Payable 30,000 Cash 20,000
Outstanding Expenses30,000
20,00,000 20,00,000
Sales for the year were Rs. 60,00,000.

Solution

Sales = Rs 60,00,000
Fixed Assets = Rs. 6,00,000 + Rs.7,00,000 + Rs. 2,50,000 + Rs. 50,000
Working capital = Current Assets – Current Liabilities
Current Assets = Stock + Debtors + bank + cash
Rs. 1.70,000 + Rs. 1.20,000 + Rs. 90,000 + Rs. 20,000
Rs. 4,00,000

Current Liabilities = Creditors + BIP + OIS Exp


= Rs. 1,40,000 + Rs. 30,000 + Rs. 30,000
= Rs. 2,00,000

Working capital = Rs. 4,00,000 + Rs. 2,00,000


= Rs. 2,00,000

Fixed Turn over Ratio = Net sale / Fixed assests


= Rs. 60,00,000/ Rs. 16,00,000 = 3.75 times

Working capital Turnover = Net Sale / Working Capital


= Rs. 60,00,000/ Rs. 2,00,000 = 30 times.

Profitability Ratios
Every business must earn sufficient profits to sustain the operations of the business
and to fund expansion and growth.
Profitability ratios are calculated to analysis the earning capacity of the business
which is the outcome of utilisation of resources employed in the business. There is a
close relationship between the profit and the efficiency with which the resources
employed in the business are utilised. There are two major types of
Profitability Ratios.

• Profitability in relation to sales


• Profitability in relation to investment.

Following are the important Profitability ratio

1. Gross Profit Ratio


2. Net profit Ratio
3. Operating Ratio
4. Operating Profit Ratio
5. Return on Investment (ROI) or Return on Capital Employed (ROCE)
6. Earnings per Share
7. Price Earning Ratio.
8. Dividend Payout Ratio

Gross Profit Ratio or Gross margin


Gross profit ratio establishes relationship between Gross Profit and net sale. It
determines the efficiency with which production, purchase and selling operations are
being carried on. It is calculated as percentage of sales. It is computed as follows:

Gross Profit Ratio = Gross Profit/Net Sales × 100

Interpretation: Gross Profit is the difference between sale and cost of good sold.
Gross Profit margin reflect the efficiency with which the management produces each
unit of output. It also include the margin available to cover operating expenses and
non operating expenses. A high Gross Profit margin relative to the industry average
employees that the firm is able to produced at comparatively at lower cost.

Illustration 21

Following information is available for the year 2006, calculate gross profit ratio:

Sales Rs. 1,20,000


Gross Profit Rs. 60,000
Return inwards Rs 20,000

Solution

Net Sales = Sales - Return inwards


= Rs. 1,20,000- 20,000
= Rs. 1,00,000

Gross Profit Ratio = Gross Profit/Net Sales × 100


= Rs.60,000/Rs.1,00,000 × 100
= 60%.

Illustration 22
Calculate Gross Profit ratio from the following information:
Opening stock Rs. 50,000; closing stock Rs. 75,000; cash sale Rs. 1,00,000; credits
sales Rs 1,70,000; Returns outwards Rs. 15,000; purchased Rs. 2,90,000;
advertisement expenses Rs. 30,000; carriage inwards Rs. 10,000.

Solution
Cost of goods sold = Opening stock + net purchases + direct expenses – closing stock
= Rs. 50,000 + (Rs. 2,90,000- Rs. 15,000) + Rs. 10,000 - Rs.
75,000
= Rs. 2,60,000

Total Sales = Cash Sales + Credits Sales


= Rs. 1,00,000 + Rs 1,70,000
= Rs. 2,70,000

Gross profit = Total Sales - Cost of goods sold


= Rs. 2,70,000- Rs. 2,60,000
= Rs. 10,000
Gross profit Ratio = 10,000 X 100
2,70,000

= 3.704 %

Net Profit Ratio or Net Margin

This ratio establishes the relationship between net profit and net sale . It indicates
managements’ efficiency in manufacturing, administering and selling the product. It
calculates as a percentage of sale. it is computed as under:

Net Profit Ratio = Net profit / Net Sales × 100


Generally, net profit refers to Profit after Tax (PAT).

Interpretation: This ratio measures the firms’ ability to turn each rupee sales into net
profit. A firm with high net profit margin would be in an advantageous position to
survive in the face of falling selling prices, rising cost of production or declining
demand for the product.

Illustration 23

Sales Rs. 6,30,000; sales Returns Rs. 30,000; Indirect expenses Rs. 50,000; cost of
goods sold Rs.2,50,000. Calculate Net Profit Ratio.

Solution
Net Sales = Total Sales – sales Returns
= Rs. 6,30,000 – Rs. 30,000
= Rs.6,00,000
Gross Profit = Net Sales – Cost of goods sold
= Rs. 6,30,000 - Rs.2,50,000
= Rs. 3,50,000
Net Profit = Gross Profit - Indirect expenses
= Rs. 3,50,000 – Rs. 50,000
= Rs. 3,00,000
Net Profit Ratio= Net Profit
Net sale
= Rs. 3,00,000 X 100
Rs. 6,00,000
= 50 %

Illustration 24

Gross profit ratio is 25 % . Cost of goods sold is Rs. 3,00,000. Indirect expenses Rs.
60,000. Calculate Net Profit Ratio.

Solution

Sales = 100/(100 – 25) X Rs. 3,00,000 = Rs. 4,00,000

Gross profit = Sale- cost of goods sold


= Rs. 4,00,000 – Rs.60,000
= Rs. 40,000
Net Profit Ratio = Net profit X 100
Net Sale

= Rs. 40,000/ Rs. 4,00,000 x 100


= 10 %

Operating Ratio

Operating Ratio establishes relationship between operating cost and net sales. It
determine the operational efficiency with the production , purchase and selling
operations are being carried on. It is calculated as follows:

Operating Ratio = (Cost of Sales + Operating Expenses)/ Net Sales × 100

Operating expenses include office expenses, administrative expenses, selling


expenses and distribution expenses.

Interpretation: Operating Ratio indicates the Operating cost incurred is computed to


express
Cost of operation excluding financial charge in relation to sales. A corollary of it is ‘
Operating Profit Ratio’. It helps to analyse the performance of business and throw
light on the operations efficiency of the business. It is very useful for inter- firm as
well as intra firm comparisons. Lower operating ratio is a very healthy sign.

Operating Profit Ratio

Operating Profit Ratio establishes the relationship between Operating Profit and net
sales. It can be computed directly or as a residual of operating ratio.

Operating Profit Ratio = Operating Profit/ Sales × 100

Where Operating Profit = Sales – Cost of Operation

Interpretation: Operating Ratio determine the operational efficiency of the


management . It helps in knowing the amount of profit earned from regular business
transactions on a sale of Rs. 100. It is very useful for inter firm as well as intra firm
comparisons. Higher operating ratio indicates that the firm has got enough margins to
meet its non operating expenses well as to create reserve and pay dividends.

Illustration 25

Calculate the operating ratio from given the following information:


Sales Rs. 2,00,000; Sales returns rs. 30,000; operating expenses Rs. 55,000; Cost of
goods sold Rs. 1,70,000

Solution
Operating Ratio = Cost of goods sold + Selling Expenses X 100
Net Sales
= Rs. 1,70,000 + 55,000 X 100
Rs.1,70,000 (2,00,000- 30,000)

= 132.35 %

Illustration 26
Calculate the Gross profit Ratio, Net Profit Ratio and Operating Ratio from the given
the following information:

Sales Rs. 4,00,000


Cost of Goods Sold Rs. 2,20,000
Selling expenses Rs. 20,000
Administrative Expenses Rs. 60,000

Solution

Gross Profit = Sales – Cost of goods sold


= Rs. 4,00,000 – Rs. 2,20,000
= Rs. 1,80,000

Gross Profit Ratio = Gross s Profit X 100


Sales
= Rs. 1 ,80,000 X 100
Rs 4 ,00,000
= 45 %

Net Profit = Gross Profit – Indirect expenses


= Rs. 1,80,000 – (Rs. 20,000 + Rs. 60,000)
= Rs. 1,00,000

Net Profit Ratio = Net profit / Sales × 100


= Rs.(1,00,000/ 4,00,000) X 100
= 25 %

Operating Expenses = Selling Expenses + Administrative Expenses


= Rs. 20,000 + 60,000
= Rs. 80,000

Operating Ratio = Cost of goods + Operating Expenses X 100


Net Sa les
= Rs. 2 ,20,000 + Rs. 80,000 X 100
Rs4, 00,000
= 75 %

Return on Capital Employed or Return on Investment (ROCE or ROI)

This ratio establishes the relationship between net profit before Interest and Tax and
capital employees. It measures how efficiently the long-term funds supplied by the
long-term creditors and shareholders are being used. It is expressed as a percentage.
Thus, it is computed as follows:

Return on Investment = Profit before Interest and Tax/Capital Employed × 100

Where capital employed = Dept + equity

Or

Capital Employed = Fixed Assets + Working Capital

Interpretation : It explains the overall utilisation of fund by a business. It reveals the


efficiency of the business in utilisation of funds entrusted to it by, share holders ,
debenture-holders and long-term liabilities. For inter-firm comparison, it is considered
good measure of profitability.

Illustration 27

Liabilities Rs. Assets Rs.


Equity Share Capital (1,00,000 equity share of Rs. 10 each) 10,00,000 Fixed
assets (Net) 14,00,000
Reserves 2,50,000 Current Assets12,50,000
10 % Debentures 5,00,000 Preliminary Expenses 1,00,000
Current Liability 7,50,000
Profit for the year 2,50,000
27,50,000 27,50,000

Calculate Return on Capital employed

Solution
Return on Investment = Profit before Interest and Tax/Capital Employed × 100

Profit before Interest and Tax:


Profit for the year = Rs. 2,50,000
Add interest (10 % of 5,00,000) = Rs. 50,000
Profit before interest and tax = 3,00,000

Capital Employes = NetAssets + working Capital


= Rs. 14,00,000 + Rs( 12,50,000 – Rs. 7,50,000)
= Rs. 19,00,000

Earnings Per Share


This ratio measures the earning available to an equity shareholders per share. Itb
indicates the profitability of the firm on a per share basis.
The ratio is calculated as -
Earning Per Share = Profit available for equity shareholders/ No. of Equity Shares

In this context, earnings refer to profit available for equity shareholders which
is worked out as Profit after Tax – Dividend on Preference Shares.
Interpretation : This ratio is very important from equity shareholders point of view
and so also for the share price in the stock market. This also helps comparison with
other firm’s to ascertain its reasonableness and capacity to pay dividend. But increase
in Earning per share does not have always indicate increase in profitability because
sometimes , when bonus shares are issued , earning per share would decrease . In
these cases, the earning per share is misleading as the actual earning have not
decreased.

Illustration 28

Calculate earning per share from the following information:

50,000 equity shares of Rs. 10 each Rs 5,00,000


10 % Preference share capital Rs 1,00,000
9 % Debentures Rs. 2,00,000
Net Profit after tax Rs. 2,00,000

Solution

Earning per share = Profit available for equity shareholders/ No. of Equity Share
= Rs( 1,10,000 – 10,000) / 50,000
= Rs. 2 per share

Price Earning Ratio

This ratio establishes a relationship between market price per share and earning per
share. The objective of this ratio is to find out the expectations of the shareholders.

This ratio is calculated as –

P/E Ratio = Market price of a Share/Earnings per Share

Interpretation : It indicates the numbers of times of EPS the share is being quoted in
the market. It reflects investors’ expectation about the growth in the firms’ earning
and reasonableness of the market price of its shares. P/E ratios vary from industry to
industry and company to company in the same industry depending upon investors
perception of their future.

Illustration 29

Earning per share Rs. 150 . market price per share Rs. 3000. Calculate price Earning
ratio.

Solution:

P/E Ratio = Market price of a Share/Earnings per Share


= Rs. 3,000/ Rs. 150
= Rs. 20

Illustration 30
Calculated price earning ratio from the following information:

Equity share capital( Rs. 10 per Share) Rs 2,50,000


Reserves (including current year’s profit) Rs 1,00,000
10 % Preference Share Capital Rs 2,50,000
9 % Debentures Rs 2,00,000
Profit before interest Rs 3,30,000
Market Price per Share Rs 50.
Tax rate 50 %

Solution
P/E Ratio = Market price of a Share/Earnings per Share

Earning per share = Profit available for equity shareholders/ No. of Equity Share

Profit available for equity shareholders:

Profit before interest = Rs. 3,30,000


Less interest on debentures = Rs 18,000
Rs 3,12,000

Less tax ( 50 % of Rs. 3,12,000) = Rs. 1.56,000


Less preference dividend = Rs. 25,000
Earning after Tax = Rs 1,31,000

Earning per share = Earning after tax / No.of equity shares


= Rs 1,31,000/ 25,000
= Rs. 5.24

P/E Ratio = Market price share / Earning per share


= Rs. 50/ Rs. 5.24
= Rs. 9.54

Dividend Payout Ratio

This refers to the proportion of earning that are distributed against the
shareholders. It is computed as –

Dividend Payout Ratio = Dividend Per Share


Earnings Per Share

Interpretation : It expresses the relationship between what is available per share and
what is actually paid in the form of dividends out of available earnings. This ratio
reflects company’s’ dividend policy. A higher payout ratio may mean lower retention
or a deteriorating liquidity position.

Illustration 31
Calculate dividend payout ratio., If dividend paid per share Rs. 2.62 per share from
the information of Illustration 30

Solution:

From the above Illustration , earning per share= Rs. 5.24


Dividend paid per share = Rs. 2.62 per Share

So. Dividend payout Ratio= Dividend per share


Earning per ratio
= Rs. 2.62
Rs. 5.24
= Rs. O.50

1.7 Meaning of Cash Flow Statement


Cash¬ flow is made up of two words i.e. Cash and Flow, whereas Cash means cash
balance in hand including cash at bank balance, and Flow means changes (which may
be + or – increase or decrease) in the cash movements of the business.
Cash Flow Statement deals with only such items, which are connected with cash i.e.,
items relating to inflow and outflow of cash. In other words, it is prepared to study the
changes in cash, or to show impact of various transactions on the cash. In short, it is a
statement, which is prepared to show the flow of cash in the business during a
particular period. It thus, tells about the changes in cash position of a business. The
changes may be related either with the cash receipts or cash payments or
disbursements of cash. Thus, Cash Flow Statement is a summary of cash receipts and
payments whereby reconciling the opening cash balance with the closing cash
including bank balances in done. It also explains the reasons for the changes in the
cash position of the business on account of the Decrease in the cash position is termed
as outflow of cash and increase is termed in flow. Cash flow statement also tells about
various sources in cash such as cash from operations, sale of current and fixed Assets,
issue of shares/debentures, also termed as inflow of cash whereas loss from
operations, purchase of current and fixed assets, redemption of preference
shares/debentures and other long term loans etc are also termed as outflow of cash.
The Cash Flow Statement is prepared because of number of merits, which are offered
by it. Such merits are also termed as its objectives. The important objectives are as
follows :
1. To Help the Management in Making Future Financial Policies – Cash Flow
statement is very helpful to the management. The management can make its future
financial policies and is in a position to know about surplus or deficit of cash.
Accordingly, management can think of investing surplus funds, if nay, in either short
term or long term investments. Thus, cash is the center of all financial decisions.
2. Helpful in Declaring Dividends etc. – Cash Flow Statement is very helpful in
declaring dividends etc. This statement can supply information regarding to
understand the liquidity. It must be paid within 42 da¬ys.
3. Cash Flow Statement is Different than Cash Budget :- Cash budget is prepared
with the help of inflow and outflow of cash. If there is any variation, the same can be
corrected.
4. Helpful in devising the cash requirement :- Cash flow statement is helpful in
devising the cash requirement for repayment of liabilities and replacement of fixed
assets.
5. Helpful in finding reasons for the difference - Cash Flow Statement is also
helpful in finding reasons for the difference between profits/losses earned during the
period and the availability of cash whether cash is in surplus or deficit.
6. As per AS-3, Cash Flow Statement :- Cash Flow Statement is prepared with
a view to highlight the cash generated from recurring activities or cash loss if any
where as net profit is calculated after making adjustments on account of non cash
items in the profit and loss account.

7. Helpful in predicting sickness of the business:- Cash flow is helpful in


predicting sickness of the business with the help of different ratios.

1.7.1 USES OF CASH FLOW STATEMENT


(i) Short-Term Planning : The Cash Flow Statement gives information regarding
sources and application of cash and cash equivalents for a specific period so that it
becomes easier to plan investments, operating and financing needs of an enterprise.
(ii) The Cash Flow helps understand Liquidity and Solvency : Solvency is the
ability of the business to meet its current liabilities. Quarterly or monthly Cash Flow
Statements help ascertain liquidity in a better way. Financial institutions, like banks
prefer the Cash Flow Statement to analyse liquidity.
(iii) Efficient Cash Management : The Cash Flow Statement provides information
relating to surplus or deficit of cash. An enterprise, therefore, can decide about the
short-term investments of the surplus and can arrange the short-term credit in case of
deficit.
(iv) Comparative Study : A comparison of the Cash Flows for the previous year
with the budgeted figures of the same year will indicate as to what extent the cash
resources of the business were generated and applied according to the plan. It is,
therefore, useful for the management to prepare cash budgets.
(v) Reasons for Cash Position : The Cash Flow Statement explains the reasons for
lower and higher cash balances with the enterprise. Sometimes, a lower cash balance
is found in spite of higher profits or a higher cash balance is found in spite of lower
profits. Reasons for such situations can be analysed with the help of the Cash Flow
Statement. Sometimes in spite of high profits gone? Answers to such questions can be
found from the Cash Flow Statement.
(vi) Test for the Management Decisions : It is a general rule that fixed assets are
purchased from the funds raised from long-term sources, and the best way to repay
the long-term debt is out of profits. The Cash Flow Statement shows clearly whether
the cash inflows from operations have been used for the purchase of fixed assets or
whether these assets have been purchased from cash inflows from long-term debts.
Similarly, it also explains whether the debentures have been redeemed out of profits
or not. Thus, the Cash Flow Statement fan be used to test the credibility of the
management decisions.

1.7.2 LIMITATIONS OF CASH STATEMENT


Though the Cash Flow Statement is a very useful tool of financial analysis, it has its
limitations which must be kept in mind at the time of its use. These limitations are :
(i) Non-cash Transaction are ignored : The Cash Flow Statement shows only
inflows and outflows of cash. It does not show non-cash transactions like the purchase
of buildings by the issue of shares or debentures to the vendors or issue of bonus
shares.
(ii) Not a substitute for an Income Statement : An income statement shows both
cash and non-cash items. The income statement shows the net income of the firm
whereas the Cash Flow Statement shows only the net cash inflows or outflows which
do not represent the net profits or losses of the enterprise.
(iii) Historical in Nature : It rearranges the existing information available in the
income statement and the balance sheet. It will become more useful if it is
accompanied by the projected Cash Flow Statement.
(iv) Ignorance :- It ignores basic accounting concept, i.e., accrual concept.

1.7.3 IMPORTANT DEFINITIONS AS PER ACCOUNTING STANDARD-3


(REVISED)
(i) Cash comprises cash on hand and demand deposits with banks.
(ii) Cash Equivalents are short-term, highly liquid investments that are readily
convertible into the known amount of cash and which are subject to an insignificant
risk of change in value. An investment normally qualifies as cash equivalent only
when it has a short maturity of, say, three months or less from the date of acquisition
Examples of cash equivalents are : (a) treasury bills,(b) commercial paper, (c) money
market funds and (d) Investments in preference shares and redeemable within three
months can also be taken as cash equivalents if there is no risk of the failure of the
company.
(iii) Cash Flows are inflows and outflows of cash and cash equivalents. AS-3
requires a Cash Flow Statement to be prepared and presented in a manner that it
shows cash flows from business transactions during a period classifying them into :
(i) Operating Activities; (ii) Investing Activities ; and (iii) Financing Activities.
(iv) Operating Activities : Operating activities are the principal revenue-producing
activities of the enterprise and other activities that are not investing or financing
activities.
(v) Investing Activities : Investing activities are the acquisition and disposal of
long-term assets and other investments not included in cash equivalents.
(vi) Financing Activities : Financing activities are the activities that result in
change in the size and composition of the owners’ capital (including preference) share
capital in the case of a company) and borrowing of the enterprise.

1.8 Classification of Cash Flows :


As discussed earlier, the Cash, Flow Statement shows the cash inflows (sources) and
cash outflows (uses or applications) of cash and cash equivalents during an
accounting period. Hence, it is essential to know about the various items of sources
(or inflows of cash) and uses (outflows of cash) of cash. As per the Accounting
Standard-3 (AS-3) the changes resulting in inflows and outflows cash and cash
equivalents arise on account of three types of activities, i.e., operating, investing and
financing as discussed below :

1.8.1 (i) Operating Activities :


Operating Activities are the principal revenue producing activities of the enterprise
and other activities that are not related to investing or financing activities. The
examples are :
(a) Cash receipts from the sale of goods and rendering of services.
(b) Cash receipts from royalties, fees, commission and other revenue.
(c) Cash payments to suppliers of goods and services.
(d) Cash payments to and on behalf of employees for wages, etc.
(e) Cash receipts and payments of an insurance enterprise for premiums and
claims, annuities and other policy benefits.

(f) Cash payments or refunds of income taxes unless they can be specifically
identified with financing and investing activities.
(g) Cash receipts and payments relating to future contracts, forward contracts,
option contracts, and swap contracts, when the contracts are held for dealing or
trading purposes.
The principal revenue producing activity of an enterprise is the main activity
(business) carried on by it to earn profits. Examples of a financial enterprise; giving
loans and dealing in securities is the principal revenue producing activity. Similarly,
for an insurance company accepting premium and payments of claims is the principal
revenue producing activity.
The net effect of the operating activities on the flow of cash is reported as cash flow
from or cash used in Operating Activities in the Cash Flow Statement.

1.8.2 (ii) Investing Activities


Investing activities are the acquisition and disposal of the long-term assets and other
investments, not included in cash equivalents, These activities include transactions
involving purchase and sale of the long-term productive assets like machinery, land
and buildings, etc., which are not held for resale. The cash flow from investing
activities are:
(a) Cash payments to acquire fixed assets (including intangibles) and also
payments for capitalized research and development costs and self constructed fixed
assets.
(b) Cash receipts from the disposal of fixed assets (including intangibles).
(c) Cash payments to purchase (acquire) shares, warrants, or debt instruments of
other enterprises and interests in joint ventures (other than payments for those
instruments considered to be cash equivalents and those held for trading or dealing
purposes).
(d) Cash receipts from sale (disposal) of shares, warrants, or debt instruments of
other enterprises and interest in joint ventures (other than receipts from those
instruments considered to be cash equivalents and those held for dealing or trading
purposes).
(e) Cash receipts from sale (disposal) of shares, warrants, or debt instruments of
other enterprises and interest in joint ventures (other than receipts from those
instruments considered to be cash equivalents and those held for dealing or trading
purposes).
(f) Cash receipts from repayments of advances and loans made to third parties
(other than advances and loans of financial enterprises).
(g) Cash receipts relating to future contracts, forward contracts, option contracts
and swap contracts except when the contracts are held for trading purposes, or the
receipts are classified as financing activities.
(h) Cash payments relating to future contracts, forward contracts, option contracts
and swap contracts except when the contracts are held for trading purposes, or the
payments are classified as financing activities.

1.8.3 (iii) Financing Activities


Financing activities are the activities which result in changes in the size and
composition of the owner’s capital (including preference share capital in the case of a
company) and borrowings of the enterprise from other sources. The cash flow from
financing activities are :
(a) Cash proceeds from the issue of shares or other similar instruments.
(b) Cash proceeds from the issue of debentures, loan notes, bonds and other short
term borrowings.
(c) Buy-back of equity shares.
(d) Cash repayments of the amounts borrowed including redemption of
debentures.
(e) Payments of dividends both equity and preference dividends.
(f) Payments for interest on debentures and loans.

Illustration 1. State a transaction a part of which is classified as an Investing Activity


and another part is classified as a Financing Activity.

Solution :
Payment of installments of an asset purchased on Hire-Purchased on Hire-Purchase
basis. The installment has two components, i.e., principal and interest. Principal is
classified as an Investing Activity and interest as a Financing Activity.

Classification of Business Activities as per AS-3, showing the inflow and Outflow of
Cash
Operating Activities
Cash Inflow Cash Outflow
(i) Cash Sales (i) Cash Purchases
(ii) Cash received from debtors (ii) Payment to Creditors
(iii) Cash received from Commission and Fees (iii) Cash Operating Expenses
(iv) Royalty (iv) Payment of Wages
(v) Income Tax

In the case of Financial Companies In the case of Financial Companies


(v) Cash received for interest and dividends (vi) Cash paid for interest
(vi) Sale of securities (vii) Purchase of Securities

Investing Activities
Cash Inflow Cash Outflow
(i) Sales of fixed Assets (i) Purchase of Fixed Assets
(ii) Sale of Investments (ii) Purchase of Investments
(iii) Interest Received
(iv) Dividends Received

Financing Activities
Cash Inflow Cash Outflow
(i) Issue of Shares in Cash (i) Payment of Loans
(ii) Issue of Debentures in Cash (ii) Redemption of Preference Shares
(iii) Proceeds from Long-term Borrowings (iii) Buy-back of Equity
Shares
(iv) Payment of Dividend
(v) Payment of Interest
(vi) Repayment of Finance/Lease Liability

Why is it important to disclose the cash flows from each activity separately?
A student will appreciate the importance of separate disclosure under each activity
from the following :

Operating Activities Investing Activities Financing Activities


The amount of the cash flow arising from operating activities is a key indicator of the
extent to which the operations of the enterprise have generated cash, i.e., whether the
cash generation is adequate to maintain operating capability of the enterprise, pay
dividends, repay loans, and make new investments. It is also helpful in forecasting
future cash flows from operations. The amount of the cash flow arising from
investing activities represents the extent to which expenditure has been incurred to
generate future income and cash flows. The amount of the cash flow arising
from financing activities is useful in assessing claims on future cash flows by
providers of funds to the enterprise.

Illustration 2. Identify the transactions as belonging to (i) Operating, (ii) Investing,


(iii) Financing Activities, and (iv) Cash Equivalents.
1. Cash Sales; 2. Issue of Share Capital; 3. Issue of Debentures; 4. Purchase of
Machines; 5. Sale of Machines; 6. Cash received from Debtors; 7. Commission and
Royalty received; 8. Purchase of Investments; 9. Redemption of Debentures and
Preference Shares; 10. Repayment of a Long-term Loan; 11. Interest paid on
Debentures or long-term loans by (a) Finance company, and (b) Non-finance
company; 12. Office Expenses; 13. Dividend received on Shares by
(a) Finance company, and (b) Non-finance company; 14. Interest received on
Investments by (a) Finance company, and (b) Non-finance company; 15.
Manufacturing Expenses; 16. Rent received by a company whose main business is (a)
real estate business, (b) manufacturing; 17. Selling and Distribution Expenses; 18.
Sale of Investment by (a) Finance company, and (b) Non-finance company; 19.
Purchase of Goodwill; 20. Dividends paid; 21. Cash Purchases; 22. Cash paid to
Creditors; 23. Sale of Patents; 24. Income Tax refund received; 26. Bank Balance; 27.
Cash Credit; 28. Short-term deposits in Banks; 29. Investment in Marketable
Securities (Short-term); 30. Rent paid and 31. Buy-back of Equity shares.

Solution :
Operating Activities : 1,6, 7, 11 (a) 12, 13 (a), 14(a), 15, 16(a), 17, 18(a), 21, 22, 24,
25,30.
Investing Activities : 4, 5, 8, 13(b), 14(b), 16(b), 20, 31.
Financial Activities: 2, 3, 9, 10, 11b, 18b, 19,23.
Cash Equivalents : 26, 27, 28, 29.
Illustration 3 From the following details, calculate cash from operations :
Rs.
Sales 2,50,000
Purchases 1,25,000
Wages 30,000
Assume that all the above transactions were in cash.

Solution :
Cash from operations = Cash inflow – Cash outflow
= Sales – (Purchases + wages)
= Rs. 2,50,000 – (Rs. 1,25,000+ Rs. 30,000)
= Rs. 2,50,000 – Rs. 1,55,000 = Rs. 95,000

Illustration 4 (Calculation of Cash Inflow from Debtors). Calculate the Cash Inflow
from Debtors from the following information :

Particulars Rs.
(a) Total Sales 4,00,000
Cash Sales 1,20,000
Opening Debtors 40,000
Closing Debtors 60,000
Sales Returns 10,000

(b) Credit Sales 2,00,000


Bad Debts 15,000
Discount Allowed 5,000
Opening Debtors 14,000
Closing Debtors 25,000
Sales Returns 10,000
(c ) Opening Debtors 10,000
Closing Debtors 25,000
Opening Bills Receivables 12,000
Closing Bills Receivables 15,000
Total Sales 2,40,000
Cash Sales 20% of Credit Sales
Discount Allowed 8,000
Bad Debts 10,000
Sales Returns 12,000

Solution
(a) CASH INFLOW FROM DEBTORS

Particulars Rs.

Opening Debtors 40,000


Add : Credit Sales (Total Sales – Cash Sales) (Rs. 4,00,000 – Rs. 1,20,000)
2,80,000
3,20,000
Less : Sales Returns 10,000
Closing Balance of Debtors 60,000 70,000
Cash Inflow from Debtors 2,50,000

Alternative Solution : Cash Flow from Debtors — as balancing figure by preparing


the Total Debtors Account.

Total Debtors Account


Dr. Cr.

Particulars Rs. Particulars Rs.


To Balance b/d 40,000 By Sales Returns 10,000
To Credit Sales : By Cash Inflow from Debtors2,50,000
Total Sales 4,00,000 (Balancing Figure)
5,000
Less: 1,20,000 2,80,000 By Balance c/d
60,000
3,20,000 3,20,000
(b)

Particulars Rs.

Opening Balance Debtors 14,000


Add : Credit Sales 2,00,000
2,14,000
Less : Bad Debts 15,000
Discount Allowed 5,000
Sales Returns 10,000
Closing Balance of Debtors 25,000 55,000

Cash Inflow from Debtors 1,59,000

¬Alternative Solution :
Total Debtors Account
Dr. Cr.

Particulars Rs. Particulars Rs.

To Balance b/d 14,000 By Sales Returns 10,000


To Credit Sales 2,00,000 By Bad Debts 15,000
By Discount Allowed 5,000
2,80,000 By Cash Inflow from Debtors1,59,000
(Balancing Figure)
By Balance c/d 25,000

2,14,000 2,14,000

Total Debtors Account


(c ) Dr. Cr.

Particulars Rs. Particulars Rs.

To Balance b/d 10,000 By Bill Receivable 3,000


To Credit Sales 2,00,000 By Discount Allowed
8,000
By Bad Debts 10,000
By Sales Returns 12,000
By Cash (Inflow from Debtors) 1,52,000
(Balancing Figure)
By Balance c/d 25,000
2,10,000 2,10,000

Illustration 5 (Calculation of Cash Outflow to Creditors). Calculate the Cash Outflow


to Creditors from the following information :

Particulars Rs.

(a) Total Purchase 1,20,000


Cash Purchases 50% of Credit Purchases
Opening Creditors 6,000
Closing Creditors 15,000
Purchase Returns 15,000
Discount Received 5,000

(b) Credit Purchases 2,00,000


Opening Balance of Creditors15,000
Closing Balance of Creditors 6,000
Discount Received 1,500
Purchase Returns 3,500
Opening Balance of Bills Payable A/c 18,000
Closing Balance of Bills Payable A/c24,000

Solution :

(a) CALCULATION OF CASH OUTFLOW TO CREDITORS

Particulars Rs.

Opening Balance of Creditors 6,000


Add : *Credit Purchase 80,000
86,000
Less : Discount Received 5,000
Purchase Returns 15,000
Closing Balance of Creditors 15,000 35,000
Cash Outflows to Creditors 51,000
* Let Credit Purchases = x; Cash Purchases =
Total Purchase = = 1,20,000 Or x = Rs. 80,000
Alternatively, the cash outflow can be calculated by preparing the Total
Creditors Account.

TOTAL DEBTORS ACCOUNT


Dr. Cr.

Particulars Rs. Particulars Rs.

To Discount Received 5,000 By Bill Receivable


6,000
To Purchase Returns 15,000 By Discount Allowed
80,000
To Cash Outflow to Creditors 51,000
(Balancing Figure)
To Balance c/d 15,000
86,000 86,000

(b) CASH OUTFLOW TO CREDITORS

Particulars Rs.

Opening Balance of Creditors 6,000


Opening Balance of Bills Payable 18,000
Add : Credit Purchases 2,00,000
2,33,000
Less : Discount Received 1,500
Purchase Returns 3,500
Closing Balance of Creditors 6,000
Closing Balance of Bills Payable 24,000 35,000
Cash Outflows to Creditors 1,98,000

Alternatively, the cash outflow can be calculated by preparing the Total Creditors
Account.

TOTAL DEBTORS ACCOUNT


Dr. Cr.

Particulars Rs. Particulars Rs.

To Discount Received 5,000 By Balance b/d (Opening)


15,000
To Purchase Returns 15,000 By Credit Purchase
2,00,000
To Bills Payable (Accepted)* 51,000
To Cash Outflow to Creditors 1,98,000
(Balancing Figure)
To Balance c/d (Closing) 6,000
2,15,000 2,15,000

* Bills Payable accepted = Closing balance of bills payable – Opening balance of


bills payable
= Rs. 24,000 – Rs. 18,000 = Rs. 6,000

How is the amount of Income Tax paid determined?


Provision for Tax Account
Dr. Cr.

Particulars Rs. Particulars Rs.

To Bank A/c (Tax Paid) ..….. By Balance b/d …..


To Balance c/d …... By Profit and Loss A/c …..
(Provision made during the year)
…… ……

Note : If only the provision for tax is given in the two Balance Sheets and no
information about tax paid is given, the amount in the previous year’s Balance Sheet
is treated as the tax paid during the current year. It involves an outflow of cash.
The current year’s provision for tax represents the amount of tax provided for the
current year. It is added back to the current year’s profits to calculate cash from
operating activities (under the indirect method). It is merely a book entry and does not
involve the outflow of cash.
The provision for Tax Account provides information about the tax paid during the
current year as well as the tax provided for the current year.
The provision for Tax Account provides information about the tax paid during the
current year as well as the outflow of cash.
The provision for Tax Account provides information about the tax paid during the
current year as well as the tax provided for the current year.
The following illustration shows how income tax paid is determined.

Illustration 6. (Cash Flow from Operating Activity with Missing Amounts under the
Direct Method). Prepare the Cash Flow Statement from Operating Activities by the
Direct Method from the following given information :-

Profit and Loss Account


for the year ended 31st March, 2007
Dr. Cr.

Particulars Rs. Particulars Rs.

To Opening Stock 20,000 By Sales :


To Purchase : Cash 7,500
Cash 25,000 Credit 1,25,000 2,00,000
Credit 75,000 1,00,000 By Closing Stock 26,000
To Selling Expenses 12,000 By Commissions 14,000
To Office Expenses 28,000 By Royalties 10,000
To Bad Debts 4,000 By Purchases Returns 1,000
To Discount Allowed 2,000
To Depreciation 15,000
To Tax Provisions 30,000
To Sales Return 2,000
To Net Profit 43,000
2,56,000 2,56,000

Additional Information :
March 31, 2006 March 31, 2007
Rs. Rs.
Debtors 15,000 10,000
Creditors 14,000 10,000
Outstanding Selling Exp. 3,000 4,000
Prepaid Office Expenses 2,000 3,000
Accrued Royalties 12,000 11,000
Advance Commission 9,000 8,000
Tax Provision 40,000 60,000

Solution :
CASH FLOW FROM OPERATING ACTIVITIES
Particulars Rs.
(a) Operating Cash Receipts
(i) Cash Sales 75,000
(ii) Cash received from Debtors (Note 1) 1,14,000
(iii) Cash from Royalties (Note 5) 11,000
(iv) Cash from Commissions (Note 6) 13,000 2,13,000
(b) Operating Cash Payments
(i) Cash Purchase 25,000
(ii) Cash paid to Creditors (Note 2) 75,000
(iii) Cash paid for Selling Exp.(Note 3) 11,000
(iv) Cash paid for office Exp. (Note 4) 28,000 1,37,000
(c) Cash Inflows from Operating Activities before (Note-3)
76,000
(d) Less : Income Tax Paid during the year (Note-7) 10,000
Net Cash Flow from Operating Activities (c-d) 66,000

Note : Depreciation is a non-cash expenditure and, therefore, it is ignored.

Working Notes : Missing Information to be Calculated

TOTAL DEBTORS ACCOUNT


1. Dr. Cr.

Particulars Particulars Rs.

To Balance b/d 15,000 By Sales Returns 2,000


To Credit Sales 1,25,000 By Discount Allowed
2,000
By Bad Debts 4,000
By Cash Received (Bal. Fig.) 1,14,000
By Balance c/d 18,000

1,40,000 1,40,000

TOTAL CREDITOR ACCOUNT


2. Dr. Cr.

Particulars Particulars Rs.

To Purchase Returns 1,000 By Balance b/d


14,000
To Discount Received 5,000 By Credit Purchases
75,000
To Cash Paid (Balancing Fig.) 73,000
To Balance c/d 10,000

89,000 89,000

SELLING EXPENSES ACCOUNT


3. Dr. Cr.

Particulars Rs. Particular Rs.

To Cash A/c (Balancing Fig) 11,000 By Outstanding Expenses


A/c 3,000 (In the beginning)
To Outstanding Exp. A/c 4,000 By Profit and Loss A/c
12,000

15,000 15,000

OFFICE EXPENSES ACCOUNT


4. Dr. Cr.

Particulars Rs. Particular Rs.

To Prepaid Expenses A/c 2,000 By Profit and Loss a/c


28,000
(in the beginning) By Prepaid Expenses A/c
3,000
To Cash A/c (Balancing Fig.) 29,000 (At the end)

31,000 31,000

ROYALTIES ACCOUNT
5. Dr. Cr.

Particulars Rs. Particular Rs.

To Accrued Royalties 12,000 By Cash A/c (Balance


Fig.) 11,000
(in the beginning) By Accrued Royalties A/c
11,000
To Profit and Loss A/c 10,000 (At the end)

22,000 22,000
COMMISSION ACCOUNT
6. Dr. Cr.

Particulars Rs. Particular Rs.

To Profit and Loss A/c 14,000 By Advance Commission


A/c 9,000 (in the beginning)
To Advance Commission A/c 8,000 By Cash A/c (Balancing
Fig.) 13,000
(At the end)

22,000 22,000

PROVISION FOR TAX ACCOUNT


7. Dr. Cr.

Particulars Rs. Particular Rs.

To Bank A/c (Tax Paid) 10,000 By Balance b/d


40,000 By Profit and Loss A/c 30,000
To Advance Commission A/c 8,000 (Provision made)
(At the end)

70,000 70,000

2. CASH FLOW FROM INVESTING ACTIVITIES

Investing Activities of an enterprise are acquisition and disposal of the long-term


assets and other investments not included in cash equivalents. Accordingly, the cash
inflow and outflow relating to the fixed assets, share and debt instruments of other
enterprises, interests in joint ventures, advances and loans to third parties and also
their repayments are shown under Investing Activities in the Cash Flow Statement.
The Cash Flow from Investing Activities is ascertained by analyzing the changes in
Fixed Assets and Long-term Investments in the beginning and at the end of the year.

Ascertaining Missing Amounts regarding Fixed Assets or Depreciation

Case 1 : When the fixed asset is shown at the written down value.
Fixed Assets Account (At written down value)
Dr. Cr.

Particulars Rs. Particular Rs.

To Balance b/d …. By Bank A/c ….


To Bank A/c (Purchases) .… Profit and Loss A/c ….
To Profit and Loss A/c …. (Loss on Sale of Fixed Asset)
….
(Profit on Sale of Fixed Asset) …. By Depreciation A/c
….
By Balance c/d ….
….. ….

Notes : 1 Generally, the purchase of fixed assets is a balancing amount on the debit
side of the account and depreciation or the sale of fixed asset on the credit side of the
account.
2. Information regarding depreciation is generally given in the question. Students
are required to find out only the sale or the purchase/sale of asset.
3. If both sale and depreciation are not given, then assume it is either sale or
depreciation and give your assumption.
4. In the case of land, it should be assumed sale as depreciation is not charged on
land. In the case of patents, goodwill and trade marks, it should be assumed sale as
depreciation is not charged on land. In the case of patents, goodwill.

Illustration 7. X Ltd. has plant and machinery whose written down value on 1st
April, 2006 was Rs.8,60,000, and on 31st March, 2007 was Rs. 9,50,000.
Depreciation for the year was Rs. 40,000. At the beginning of the year, a part of plant
was sold for Rs. 5,000 which had a written down value of Rs. 20,000. Calculate the
Net Cash Flow from Investing Activities.

Solution :
CASH FLOW FROM INVESTING ACTIVITIES

Particulars Rs.

Cash Payment to acquire Plant and Machinery (Note) 1,50,000


Cash Receipts from Sale of Plant and Machinery 25,000 (1,25,000)
Note :
PLANT AND MACHINERY ACCOUNT
Dr. Cr.

Date Particulars Rs. Date Particular Rs.

2006 2006
Apr 1 To Balance b/d 8,60,000 Apr 1 By Bank A/c
25,000
To Profit and Loss A/c 5,000 2007 By Depreciation
A/c 40,000
(Profit on Sale of Plant) Mar 31 By Balance c/d
9,50,000
To Bank A/c (Purchases 1,50,000
Balancing Figure
10,15,000 10,15,000

Case 2 : When the fixed assets are shown at cost and accumulated depreciation (the
provision for depreciation) is separately is separately maintained .
Under this case, (in contrast to the above case), depreciation is not directly charged to
the Assets account. The depreciation for the period is debited to the Depreciation
Account (transfer to the Profit and Loss Account) and credited to Accumulated
Depreciation Account. In the Balance Sheet, asset appears at its original cost and the
accumulated depreciation is shown as a deduction from the Assets Account. In such
cases, we prepare separate accounts for fixed assets and accumulated depreciation or
provisions for depreciation. Depreciation for the year can be ascertained from
Provision for the Depreciation Account.

Fixed Assets Account (At Cost)


Dr. Cr.

Particulars Rs. Particular Rs.

To Balance b/d …. By Bank A/c (Sale of Fixed Asset) ….


To Profit and Loss A/c .… By Accumulated Dep. A/c
….
Profit on Sale of Fixed Asset)…. (Accumulated Dep. on
To Bank A/c (Pur. of Fixed Asset) …. Fixed Asset Sold)
….
By Profit and Loss A/c ….
(Loss on Sale of Fixed Asset) …..
By Balance c/d …..
…… ……

Note : Normally, the purchase of fixed asset is a balancing amount on the debit side
of the account and the sale of fixed asset on the credit side of the account.

ACCUMULATED DEPRECIATION ACCOUNT


Dr. Cr.

Particulars Rs. Particular Rs.

To Fixed Asset A/c …. By Bank A/c (Sale of Fixed


Asset) ….
To Profit and Loss A/c .… By Accumulated Dep. A/c
….
Profit on Sale of Fixed Asset)…. (Accumulated Dep. on
To Bank A/c (Pur. of Fixed Asset) …. Fixed Asset Sold)
….
By Profit and Loss A/c ….
(Loss on Sale of Fixed Asset) …..
By Balance c/d …..
…… ……

Note : The Accumulate depreciation on the fixed asset sold or depreciation charged
for the current accounting year may not be given, which shall be the balancing
amount.

3. CASH FLOW FROM FINANCING ACTIVITIES


Financing Activities of an enterprise are those activities that result in change in the
size and composition of owners’ capital and borrowing of the enterprise. It includes
proceeds from issue of shares or other similar instruments, issue of debentures, loans,
bonds, other short-term or long-term borrowings and repayments of amounts
borrowed. Accordingly, receipts and payments on account of the above are disclosed
in the Cash Flow Statement as the Cash Flow from Financing Activities.
Dividends paid (in all enterprises) and interest paid (in the case of non-financing
enterprises) are also included in financing activities.
It is important to note that an increase in share capital due to bonus issue will not be
shown in the cash flow statement, since it is a capitalization of reserves. When shares
are issued at a premium, the cash flow statement reflects the total cash generated by
the issue (i.e., Face Value of Shares + Premium).
The Cash Flow from Financing Activities is ascertained by analyzing the change in
Equity and Preference Share Capital, Debentures and other borrowings.
Illustration 8. From the following information, calculate the Cash Flow from
Financing Activities :

Particulars 31.3.2006 31.3.2007


Rs, Rs
Equity Share Capital 4,00,000 5,00,000
10% Debentures 1,50,000 1,00,000
Securities 40,000 50,000

Additional Information : Interest paid on debentures Rs. 10,000

Solution :
Calculation of Net Cash Flow From Financing Activities
Particulars Rs.

Cash Proceeds from the Issue of Shares (Including Premium) 1,10,000


Interest paid on Debentures (10,000)
Redemption of Debentures (50,000)
Net Cash Flow from Financing Activities 50,000

Illustration 9. XYZ Ltd. provides the following information. Calculate the Net Cash
Flow from Financing Activities :

Particulars 31.3.2006 31.3.2007


Rs, Rs
Equity Share Capital 10,00,000 15,00,000
10% Debentures 1,00,000 ……..
8% Debentures ……… 2,00,000

Additional Information :
(i) Interest paid on Debentures Rs. 10,000
(ii) Dividend paid Rs. 50,000
(iii) During the year 2006-2007, XZY Ltd. issued bonus shares in the ratio of 2 : 1
by capitalising reserve.

Solution :
Calculation of Net Cash Flow From Financing Activities
Particulars Rs.

Cash Proceeds from the Issue 8% of Debentures 2,00,000


Redemption of 10% Debentures (1,00,000)
Interest paid (10,000)
Dividend paid (50,000)
Net Cash Flow from Financing Activities 40,000

Note : Bonus shares is not to be shown in the Cash Flow Statement because there is
no cash flow.

Illustration 10. From the following information, calculate the Cash Flow from
Investing Activities and Financing Activities :

Particulars Opening Closing


Furniture (At Cost) 20,000 28,000
Accumulated Depreciation on Furniture 6,000 9,000
Capital 1,00,000 1,40,000
Loan from Bank 25,000 15,000

During the year, furniture costing Rs. 4,000 was sold at a profit of Rs. 3,000.
Depreciation on furniture charged during the year amounted to Rs. 5,000.

Solution :
Cash Flow from Financing Activities
Particulars Rs.
Inflow from Issue of Fresh Capital (Given) (Rs. 1,40,000 – Rs. 1,00,000)
40,000
Outflow on Repayment of Bank Loan (Given) Rs. 25,000 – Rs. 15,000)
(10,000)
Net Cash from Financing Activities 30,000

Cash Flow from Investing Activities


Particulars Rs.
Inflow from Sale of Furniture (3) 50,000
Outflow on Purchase of Furniture(1) (12,000)
Net Cash from Investing Activities (4) 7,000

1.9 PREPARATION OF CASH FLOW STATEMENT


Having discussed how the Cash Flow Statement is prepared for each activity, let us
now discuss the Cash Flow Statement as a complete statement as follows :
1. Compute the Cash Flows from Operating Activities.
2. Compute the Cash Flows from Investing Activities and Financing Activities.
3. The Cash Flows under each activity (Operating/Investing/Financing) are
shown in the Cash Flow Statement. Aggregate of these three activities will be either
an increase or a decrease in cash equivalents.
4. Cash and Cash Equivalent balance at the beginning will be added to the net
increase or decrease in Cash Equivalents (Step 3). Resulting figure will be Cash and
Cash Equivalents at the end.
The formats for calculating Cash Flow from Operating Activities by Direct Method
and Indirect Method are given below :
1.9.1 DIRECT METHOD
FORMAT FOR CASH FLOW STATEMENT
for the year ended ….
[ As per Accounting Standard-3 (Revised)]
Particulars Rs.
1. Cash Flow from Operating Activities
A. Operating Cash Receipts, e.g.,
– Cash Sales ….
– Cash received from Customers ….
– Trading Commissions received ….
– Royalties received …. …..

(B) Operating Cash Payments, e.g.,


– Cash Purchases (…)
– Cash Paid to the Suppliers (…)
– Cash Paid for Business Expenses like Office Expenses,
Manufacturing Expenses, Selling and Distribution
Exp. Etc. (…) (...)
(C) Cash generated from Operations (A – B) …
(D) Income Tax Paid (Net of Tax Refund received) (…)
(E) Cash Flow before Extraordinary Item ….
(F) Extraordinary Items (Receipt/Payment) (+/-)….
(G) Net Cash from (or used in) Operating Activities ….
II. Cash Flow from Investing Activities
(Same as under Indirect Method)
III. Cash Flow from Financing Activities …
(Same as under Indirect Method)
IV. Net Increase/Decrease in Cash and Cash Equivalents …
(Same as under Indirect Method - I + II + III) …
V. Add Cash and Cash Equivalents in the beginning of the year
(Same as under Indirect Method) …
VI. Cash and Cash Equivalents in the end of the year …

1.9.2 INDIRECT METHOD


FORMAT FOR CASH FLOW STATEMENT
for the year ended ….
[ As per Accounting Standard-3 (Revised)]
Particulars Rs.
1. Cash Flow from Operating Activities
Net Profit and Loss A/c or Difference between Closing Balance and
Opening Balance of Profit and Loss A/c …
Add : (A) Appropriation of funds.
Transfer to reserve …
Proposed dividend for current year …
Interim dividend paid during the year …
Provision for tax made during the current year …
Extraordinary item, if any, debited to the Profit and Loss A/c …
Less : Extraordinary item, if any, credited to the Profit and Loss A/c
(…)
Refund of tax credited to Profit and Loss A/c (…)
Net Profit before Taxation and Extraordinary Items ….
(B) Add : Non operating Expenses :
– Depreciation …
– Preliminary Expenses / Discount on Issue of Shares
and Debentures written off …
– Goodwill, Patents and Trade Marks Amortized ….
– Interest on Borrowings and Debentures ….
– Loss on Sale of Fixed Assets ….
….
(C) Less : Non Operating Incomes:
– Interest Income …
– Dividend Income …
– Rental Income …
– Profit on Sale of Fixed Assets… …

(D) Operating Profit before Working Capital Changes (A+B–C)



(E) Add : Decrease in Current Assets and Increase in Current Liabilities
– Decrease in Stock/ Inventories …
– Decrease in Debtors/ Bills Receivables …
– Decrease in Accrued Incomes…
– Decrease in Prepaid Expenses …
– Increase in Creditors /Bills Payables …
– Increase in Outstanding Expenses …
– Increase in Advance Incomes …
– Increase in Provision for Doubtful Debts. …

(F) Less : Increase in Current Assets and Decrease in Current Liabilities
– Decrease in Stock/ Inventories …
– Decrease in Debtors/ Bills Receivables …
– Decrease in Accrued Incomes…
– Decrease in Prepaid Expenses …
– Increase in Creditors /Bills Payables …
– Increase in Outstanding Expenses …
– Increase in Advance Incomes …
– Increase in Provision for Doubtful Debts. …
(G) Cash Generated from Operations (D+E–F) …

(H) Less : Income Tax Paid (Net of Tax Refund received) …

(I) Less : Income Tax Paid (Net of Tax Refund received) …


(J) (+/-) Extraordinary Items
(K) Net Cash from (or used in) Operating Activities …

II. Cash Flow from Investing Activities


– Proceeds from Sale of Fixed Assets …
– Proceeds from Sale of Investments …
– Proceeds from Sale of Intangible Assets …
– Interest and Dividend received
(For Non-financial companies only) …
– Rent Income …
– Purchase of Fixed Assets (…)
– Purchase of Investments (…)
– Purchase Intangible Assets like Goodwill (…)
Net Cash from (or used in) Financing Activities …
III. Cash from Financing Activities
– Proceeds from Issue of Shares and Debentures …
– Proceeds from Other Long-term Borrowings …
– Final Dividend Paid (…)
– Interest and Debentures and Loans Paid (…)
– Repayment of Loans (…)
– Redemption of Debentures / Preference Shares (…)
Net Cash from (or used in) Financing Activities …

IV. Net Increase / Decrease in Cash and Cash Equivalents (I+II+III)


V. Add : Cash and Cash Equivalents in the beginning of the year


– Cash in Hand
– Cash at Bank (Less : Bank Overdraft) …
– Short-term Deposits …
– Marketable Securities … …
VI. Cash and Cash Equivalents in the end of the year
– Cash in Hand …
– Cash at Bank (Less : Bank Overdraft) …
– Short-term Deposits …
– Marketable Securities … …

Note : Amounts in brackets indicate negative amounts, i.e., amounts that are to
be deducted.

Illustration 11. From the following information, prepare the Cash Flow Statement for
the year ended March 31, 2007 :
Particulars Rs.
Opening Cash Balance 10,000
Closing Cash Balance 12,000
Decrease in Debtors 5,000
Increase in Creditors 7,000
Sale of Fixed Assets 20,000
Redemption of Debentures 50,000
Net Profit for the year 20,000

Solution :
Cash Flow Statement
for the year ended 31st March, 2007
Particulars Rs.
A. Cash Flow from Operating Activities 20,000
Net Profit for the year before tax
Add : Increase in Creditors 7,000
Decrease in Debtors 5,000 12,000
Net Cash provided by Operating Activities 32,000
B. Cash Flow from Investing Activities 20,000
Proceeds from Sale of Fixed Assets 20,000
Net Cash from Investing Activities
C. Cash Flow from Financing Activities
Redemption of Debentures (50,000)
Net Cash used in Financing Activities (50,000)
D. Net Increase in Cash (A +B+C) 2,000
Add : Cash at the beginning of the period 10,000
Cash at the end of the period 12,000

Illustration 12. From the following particulars , prepare the Cash Flow Statement for
the year ended 31st March, 2007 by the Direct Method :

(i) Cash sales Rs. 65,86,000.


(ii) Cash collected from debtors during the year amounted to Rs. 33,23,400.
(iii) Cash paid to suppliers was Rs. 79,36,810.
(iv) Rs.9, 87, 500 was paid to and for employees.
(v) Furniture of the book value of Rs. 18,500 was sold for Rs. 11,000 and a new
furniture costing
Rs. 83,160 was purchased.
(vi) Debentures of the face value of Rs. 3,00,000 were redeemed at a premium of 2
per cent interest on debentures. Interest on debentures, Rs. 84,000 was also paid.
(vii) Dividend, Rs. 4,50,000 for the year ended 31st March, 2007 was distributed in
May, 2007.
(viii) Cash in hand and at bank as on March 31, 2006 and March 31,2007 was Rs.
51,070 and
Rs. 5,74,000 respectively.

Solution :
CASH FLOW STATEMENT (DIRECT METHOD)
for the year ended 31st March, 2007
Particulars Rs.
Cash Flow from Operating Activities
Receipts – Cash Sales 65,86,000
Cash receipts from customers 33,23,400
99,09,400
Payments –Payments for purchases and to suppliers 79,36,810
Payments to and for employees 9,87,500
89,24,310
Net Cash from Operating Activities (Receipts – Payments) 9,85,090
Cash Flow from Investing Activities
Purchase of Fixed Assets (83,160)
Proceeds from Sale of Fixed Assets 11,000
Cash Flow from Financing Activities (72,160)
Redemption of debentures at a premium [Rs. 3,00,000 + Rs. 6,000](3,06,000)
Interest paid on debentures (84,000) (3,90,000)
Net Cash used in Financing Activities (3,90,000)
Net increase in cash and cash equivalents 5,22,930
Cash and cash equivalents as on 31st March, 2007 (Closing Balance)
51,070
Cash and cash equivalents as on 31st March, 2007 (Closing Balance)
5,74,000

Notes : Dividend for the year ended 31st March, 2007 was paid in May 2007. Hence,
it is not an outflow of cash for the year ended 31st March, 2007.
Illustration 13. From the summary cash account of X Ltd. prepare the Cash Flow
Statement for the year ended 31st March, 2007 by Direct Method.
CASH BOOK
Dr. for the year ended March 31,2007
Cr.

Particulars Rs. Particular Rs.

To Balance on April 1,2006 50,000 By Payment to Suppliers


20,00,000
To Issue of Equity Shares 3,00,000 By Purchased of Fixed Assets
2,00,000
To Receipts from Customers 28,00,000 By Overhead Expenses
2,00,000
To Sale of Fixed Assets 1,00,000 By Wages and Salaries
1,00,000 By Income Tax Paid
2,50,000
By ‘Dividend Paid 3,00,000
By Re payment of Bank Loan3,00,000
By Balance on March 31, 2007 1,50,000

32,50,000 32,50,000

Solution :
CASH FLOW STATEMENT OF X LTD. (DIRECT METHOD)
for the year ended 31st March, 2007
Particulars Rs.
A. Cash Flow from Operating Activities
(i) Operating Cash Receipts :
Cash Received from Customers 28,00,000
(ii) Operating Cash Payments :
Cash Paid to Suppliers 20,00,000
Wages and Salaries 1,00,000
Overhead Expenses 2,00,000 (23,00,000)

Cash Generated from Operations 5,00,000


Less : Income Tax Paid 2,50,000

Net Cash from Operating Activities 2,50,000


B. Cash Flow from Investing Activities
Purchase of Fixed Assets (2,00,000)
Proceeds from Sale of Fixed Assets 1,00,000
Net Cash Used in Investing Activities (1,00,000)
C. Cash Flow from Financing Activities
Proceeds from Issue of Equity Shares 3,00,000
Payment of Bank Loan (3,00,000)
Dividend Paid (50,000)
Net Cash Used in Financing Activities (50,000)
D. Net Increase in Cash and Cash Equivalents (A+B+C) 1,00,000
E. Cash and Cash Equivalent at the beginning of the year 50,000
F. Cash and Cash Equivalent at the End of the year 1,50,000

Illustration 14. The financial position of ABC Ltd. as on 31st March was as follows :

Dr. Cr.

Liabilities 2006 2007 Assets 2006 2007


Rs. Rs. Rs. Rs.

Current Liabilities 72,000 82,000 Cash 8,000 7,2000


Loan from Z Ltd. …. 40,000 Debtors 70,000 76,800
Loan from Bank 60,000 50,000 Stock 50,000 44,000
Share Capital 2,00,000 2,00,000 Land 40,000 60,000
Profit and Loss A/c 96,000 98,000 Buildings 1,00,000 1,10,000
Machinery 2,14,000 2,44,000
Provision for Dep. (54,000) (72,000)
4,28,000 4,70,000 4,28,000 4,70,000

During the year. Rs. 52,000 were paid as dividend. Prepare Cash Flow Statement.
Solution :
CASH FLOW STATEMENT
for the year ended 31st March, 2007
Particulars Rs.
Cash Flow from Operating Activities
Net profit before tax and extraordinary items
(See Working Note) 54,000
Add : Depreciation 18,000
Operating Profit before Working Capital Changes 72,000
Add : Decrease in Stocks 6,000
Increase in Current Liabilities10,000
Less : Increase in Debtors (6,800)
Net Cash from Operating Activities 81,200
Cash Flow from Investing Activities
Purchase of Building (10,000)
Purchase of Land (20,000)
Purchase of Machinery (30,000)
Net Cash used in Investing Activities (60,000)
Cash Flow from Financing Activities
Proceeds of Loan from Z Ltd.40,000
Repayment of Bank Loan (10,000)
Payment of Dividend (52,000)
Net cash used in Financing Activities (22,000)
Net Decrease in Cash and Cash Equivalents (800)
Cash and cash equivalents at the beginning 8,000
Cash and cash equivalents at the end of the period 7,200

Working Note :
Closing Balance as per Profit and Loss A/c (on 31st March, 2007) 98,000
Less : Opening Balance as per Profit and Loss A/c as on 1st April, 2006 96,000
Profit for the year 2,000
Add : Dividends Paid 52,000
Net Profit before Tax 54,000

Illustration 15. From the following particulars of XYZ Ltd. prepare the Cash Flow
Statement.

Dr. Cr.

Liabilities March 31 March 31, Assets March 31,


March 31
2006 2007 2006 2007
Rs. Rs. Rs. Rs.
Equity Share Capital 3,00,000 3,50,000 Fixed Assets (Net) 5,10,000
6,20,000
12% Pref. Share Capital 2,00,000 1,00,000 10% Investment
30,000 80,000
10% Debentures 1,00,000 2,00,000 Cash in Hand 20,000 35,000
Profit and Loss A/c 1,10,000 2,70,000 Cash at Bank 20,000 40,000
Creditors 70,000 1,45,000 Debtors (Good) 1,00,000
2,00,000
Provision for Doubtful Debts 10,000 15,000 Stock 1,00,000 90,000
Discount on Deb. 10,000 15,000
7,90,000 10,80,000 7,90,000 10,80,000

You are informed that during the year :


(i) A machine with a book value of Rs. 40,000 was sold for 25,000.
(ii) Depreciation charged during the year was Rs.70,000.
(iii) Preference shares were redeemed on 31st March, 2007 at a premium of 5%.
(iv) An Interim Dividend @ 15 per cent was paid on equity shares on 31st March,
2007. Preference Dividend was also paid on 31st march, 2007.
(v) New shares and debentures were issued on 31st March, 2007.

Solution :
CASH FLOW STATEMENT
for the year ended 31st March, 2007
Particulars Rs.
(A) Cash Flow from Operating Activities
Closing Balance as per Profit and Loss A/c 2,70,000
Less : Opening Balance as per Profit and Loss A/c 1,10,000
1,60,000
Add : Appropriation of Fund
Preference Dividend 24,000
Interim Dividend 45,000
Increase in Provision for Doubtful Debts (Since all debtors are good)
(Note 1) 5,000 74,000

Net Profit before tax 2,34,000


Add : Non operating Expenses :
Depreciation 70,000
Interest on Long Term Borrowings (Debentures) 10,000
Loss on Sale of Machinery 15,000

Premium Payable on Redemption of Preference Shares 5,000 1,00,000


3,34,000

Less : Non operating Incomes :


Interest on Investment 3,000
Operating Profit before Working Capital Changes 3,31,000
Add : Decrease in Current Assets and Increase in Current Liabilities
Decrease in Stock 10,000
Increase in Creditors 75,000 85,000
4,16,000
Less : Increase in Current Assets and Decrease in Current Liabilities
Increase in Debtors 1,00,000
Net Cash from Operating Activities 3,16,000

B. Cash Flow from Investing Activities


Purchase of Fixed Assets (2,20,000)
Proceeds from Sale of Machinery 25,000
Interest on Investment3,000
Purchase of Investments (50,000)
Net Cash Used in Investing Activities (2,42,000)
(C ) Cash Flow from Financing Activities
Proceeds from Issue of Share Capital 50,000
Proceeds from long-term borrowings (Debentures) 95,000
[ Rs. 1,00,000 – Rs. 5,000 (Discount on Issue of Debentures) (Note 2)]
Redemption of Preference Shares (Rs. 1,00,000 + Rs. 5,000) (1,05,000)
Interest Paid on Long-Term Borrowings (10,000)
Interim Dividend paid (45,000)
Preference Dividend Paid during the year (24,000)
Net Cash Used in Financing Activities (39,000)
Net Increase in Cash and Cash Equivalents (A+B+C) 35,000
Cash and Cash Equivalents in the beginning of period 40,000
(Cash in Hand and Cash at Bank)
Cash in Cash Equivalents at the end of period 75,000
(Cash in Hand and Cash at Bank)

Working Notes :
a. Increase in Provision for Doubtful Debts (if all debtors have been considered
as good) represents transfer of the Profit from Profit and Loss Account. It is added
back to the current year’s profits to find out cash from Operating Activities.
b. Increase in Discount on the Issue of Debentures (or shares) is deducted from
increase in Debentures (or shares) to ascertain the net amount of issue.

FIXED ASSETS ACCOUNT (AT W.D.V)


3. Dr. Cr.

Particulars Rs. Particulars Rs.

To Balance b/d 5,10,000 By Bank A/c 25,000


To Bank A/c (Purchase) 2,20,000 By Profit and Loss A/c
(Balancing Figure) (Loss on Sale) 15,000
By Depreciation A/c 70,000
By Balance c/d 6,20,000
7,30,000 7,30,000

Illustration 16. The summarized Balance Sheets of XYZ Ltd. as on 31st March, 2006
and 2007 are given below :-
Dr. Cr.

Liabilities March 31 March 31, Assets March 31,


March 31
2006 2007 2006 2007
Rs. Rs. Rs. Rs.
Share Capital 4,50,000 4,50,000 Fixed Assets 4,00,000 3,20,000
General Reserve 3,00,000 3,10,000 Investment 50,000 60,000
Profit and Loss A/c 56,000 68,000 Stock 2,40,000 2,10,000
Creditors 1,68,000 1,34,000 Debtors 2,10,000
4,55,000
Provision for Taxation 75,000 10,000 Bank 1,49,000 1,97,000
Mortgage …. 2,70,000
10,49,000 12,42,000 10,49,000 12,42,000

Additional Information :
(i) Investments costing Rs. 8,000 were sold during the year 2006-07 for Rs.
8,500.
(ii) Provision for tax made during the year was Rs. 9,000.
(iii) During the year, part of the fixed assets costing Rs. 10,000 was sold for Rs.
12,000 and the profit was included in the Profit and Loss Account.
(iv) Dividends paid during the year amounted to Rs. 40,000
You are required to prepare a Cash Flow Statement.

Solution :
CASH FLOW STATEMENT
for the year ended 31st March, 2007
Particulars Rs.
(A) Cash Flow from Operating Activities :
Closing Balance as per P & L A/c (31.3.2007) 68,000
Less : Opening Balance of Profit and Loss A/c (31.3.2006) 56,000
12,000
Add : Appropriation of Fund :
Interim Dividend 40,000
Provision for Tax 9,000
Transfer to Reserve 10,000 59,000
Net Profit before tax and extraordinary items 71,000
Add: Non Operating Expenses : 70,000
Depreciation (Note 1)
Less : Non Operating Incomes : (500)
Profit on Sale of Investments (2,000)67,500
Operating Profit before Working Capital Changes 1,38,500
Add : Decrease in Current Assets and Increase in Current Liabilities :
Decrease in Stock (Rs. 2,40,000 – Rs. 2,10,000) 30,000
Less : Increase in Current Assets and decrease in Current Liabilities :
Increase in Debtors (Rs. 4,55,000 – Rs. 2,10,000) (2,45,000)
Decrease in Creditors (Rs. 1,68,000 – Rs. 1,34,000) (34,000)
(2,79,000)
Cash Generated from Operations (1,10,500)
Less : Income tax Paid (74,000)
Net Cash used in Operating Activities (A) (1,84,500)
(B) Cash Flow from Investing Activities
Purchase of Investment (18,000)
Sale of Fixed Assets 12,000
Sale of Investments 8,500
Net Cash from Investing Activities (B) 2,500
(C) Cash Flow from Financing Activities
Mortgage Loan 2,70,000
Dividend Paid (40,000)
Net Cash from Financing Activities (C) (2,30,000)
(D) Net Increase in Cash and Cash Equi¬¬valents (A+B+C) 48,000
(E) Cash and Cash Equivalents at the beginning of the year 1,49,000
(F) Cash and Cash Equivalents at the end of the year 1,97,000

Working Notes :
1 Dr. Fixed Assets Account Cr.

Particulars Rs. Particulars Rs.

To Balance b/d 4,00,000 By Bank A/c 12,000


To Profit and Loss A/c 2,000 By Depreciation A/c (Bal. Fig.)
70,000
(Profit on Sale) By Balance c/d
3,20,000

4,02,000 4,02,000

2 Dr. Investment Account Cr.

Particulars Rs. Particulars Rs.

To Balance b/d 4,00,000 By Bank A/c 8,500


To Profit and Loss A/c (Profit) 2,000 By Depreciation A/c
(Bal. Fig.) 60,000
To Bank A/c (Balance Fig.) 18,500

68,500 68,500

3 Dr. Investment Account Cr.

Particulars Rs. Particulars Rs.

To Bank A/c (Balancing Fig.) 4,00,000 By Balance b/d


75,000
To Balance c/d 2,000 By Profit and Loss A/c
To 18,500 (Provision Made) 9,000

84,000 84,500
Net Profit or Drawings : Sometimes in the case of a sole trader or a partnership firm,
capital of the proprietor or partners is given but the amount of drawings or net profits
made may be missing. The capital account may be prepared to find the net profits or
drawings.

Illustration 17. The summarized Balance Sheets of XYZ Ltd. as on 31st March, 2006
and 2007 are given below :-
Dr. Cr.

Liabilities 2006 2007 Assets 2006 2007


Rs. Rs. Rs. Rs.
Creditors 40,000 44,000 Fixed Assets 10,000 7,000
Mrs. A’s Loan 25,000 … Debtors 30,000 50,000
Loan from Bank 40,000 50,000 Stock 35,000 25,000
Capital of A and B 1,25,000 1,53,000 Machinery 80,000 55,000
Land 40,000 50,000
Buildings 35,000 60,000
2.30,000 2,47,000 2,30,000 2,47,000

During the year, a machine costing Rs. 10,000 (accumulated depreciation Rs. 3,000)
was sold for Rs. 5,000. The provision for depreciation against machinery as on March
31,2006 and March 31, 2007 was of Rs. 25,000 and Rs. 40,000 respectively.
The Net Profits for the year amounted to Rs. 45,000. You are required to prepare the
Cash Flow Statement.
Solution :
CASH FLOW STATEMENT
for the year ended 31st March, 2007
Particulars Rs.
(A) Cash Flow from Operating Activities
Net Profit before Tax 45,000

Add : Non Operating Expenses :


Depreciation (See Note 3) 18,000
Loss on Sale of Machinery (See Note 4) 2,000 20,000
Operating Profit before Working Capital Changes 65,000
Add : Decrease in Current Asset or Increase in Current Liabilities:
Decrease in Stock 10,000
Increase in Creditors 4,000 14,000
79,000
Less : Increase in Current Asset or Decrease in Current Liabilities
Increase in Debtors 20,000
Net Cash from Operating Activities 59,000

(B) Cash Flow from Investing Activities


Purchase of Land (10,000)
Purchase of Buildings (25,000)
Proceeds from Sale of Machinery 25,000
Net cash used in Investing activities (30,000)
(C ) Cash Flow from Financing Activities
Proceeds of Loan from Bank 10,000
Payment of Mrs. A’s Loan (25,000)
Drawings (Note 1) (17,000) (32,000)
Net Cash used in Financing Activities
(D) Net Decrease in Cash and Cash Equivalents (A+B+C) (3,000)
(E) Cash and cash equivalents at the beginning of the period (10,000)
(F) Cash and cash equivalents at the end of the period 7,000
Notes :
Drawings = Opening Capital of A and B + Net Profits – Closing Capital of A and
B = Rs. 1,25,000 + Rs. 45,000 – Rs. 1,53,000 = Rs. 17,000

2 Dr. Machinery Account Cr.

Particulars Rs. Particulars Rs.


To Balance b/d 1,05,000 By Cash A/c 5,000
(Rs. 80,000+Rs. 25,000) By Provision for Depreciation
3,000
By Profit and Loss A/c – 2,000
Loss o¬n Sale (Note 4) 95,000
1,05,000 1,05,000

*Sometimes, fixed assets are shown at the written down value (after deducting
depreciation) in the balance sheet and the accumulated depreciation is given in the
additional information (as in the present illustration). In such a case, the opening and
closing balances in the respective Fixed Assets account will be the total amount of
book value shown in the balance sheet plus balance of the accumulated depreciation
provided in additional information.

3 Dr. Provision for Depreciation Account Cr.

Particulars Rs. Particulars Rs.


To Depreciation on Machinery Sold 3,000 By Balance A/c
25,000
To Balance c/d 40,000 By Depreciation provided
(Balancing Figure) 18,000
43,000 43,000

4. Loss on Sale of Machinery = Cost – Accumulated Depreciation – Selling Price


=
Rs. 10,000 – Rs. 3,000 – Rs. 3,000 – Rs. 5,000 = Rs.2,000

Illustration 18. From the following Balance Sheets of M/s Gupta & Co., prepare the
Cash Flow Statement for the year ended March 31 :

Liabilities 2006 2007 Assets 2006 2007


Rs. Rs. Rs. Rs.
Creditors 20,000 22,000 Cash 8,000 22,000
Outstanding Expenses 5,000 1,000 Debtors 15,000 11,000
Loan from X 10,000 5,000 Bills Receivable 5,000 …
Capital 1,08,000 1,68,000 Stock 20,000 28,000
Fixed Assets 95,000 1,35,000
2.30,000 2,47,000 2,30,000 2,47,000

During the year, the proprietor introduced Rs. 20,000 as additional capital. The net
profits for the year, after charging Rs. 5,000 as depreciation on fixed assets, were Rs.
50,000.

Solution :
CASH FLOW STATEMENT
for the year ended 31st March, 2007
Particulars Rs.
(A) Cash Flow from Operating Activities
Net Profit before Tax 50,000
Non-Op. Expenses :
Depreciation 5,000
Operating profit before Working Capital Changes 55,000
Add : Decrease in Current Assets & increase in Current Liabilities :
Debtors 4,000
Bills Receivables 5,000
Creditors 2,000 11,000
66,000

Less : Increase in Current Assets & decrease in current liabilities:


Stock 8,000
Outstanding Expenses4,000 12,000
Net Cash from Operating Activities 54,000
(B) Cash Flow from Investing Activities
Fixed Assets Purchased (See Working Note 2)
Net Cash used in Investing Activities (45,000)
(C) Cash Flow from Financing Activities
Repayment of Loan from X (5,000)
¬ Additional Capital Introduced 20,000
Drawing (See Working Note-1) (10,000)
Net Cash used in Financing Activities 5,000
(D) Net Increase in Cash and Cash Equivalents (A+B+C) (14,000)
(E) Cash Balance on April 1, 2006 (8,000)
(F) Cash Balance on March, 31, 2007 22,000
Working Notes :

1 Dr. CAPITAL ACCOUNT Cr.

Particulars Rs. Particulars Rs.


To Cash A/c 10,000 By Balance b/d 1,08,000
(Rs. 80,000+Rs. 25,000) By Cash A/c
(Additional Capital)
By Profit and Loss A/c 50,000
Loss o¬n Sale (Note 4) 95,000
1,78,000 (Net Profit) 1,78,000

2 Dr. FIXED ACCOUNT Cr.

Particulars Rs. Particulars Rs.


To Balance b/d 95,000 By Depreciation 5,000
To Bank A/c By Balance c/d 1,35,000
(Purchase – Balancing Figure) 45,000
1.40,000 1,40,000

Terms introduced in the chapter

1. Financial Statements
2. Profit and loss Account
3. Balance Sheet
4. Preliminary expense
5. Share Capital
6. Contingent liabilities
7. Proposed dividend
8. Provision for taxation
9. Ratio Analysis
10. Liquidity ratios
11. Solvency ratios
12. Turnover ratios
13. Profitability ratios
14. Return on investment
15. Quick Assets
16. Receivables
17. Earning per share
18. Dividend payout
19. Cash Flow
20. Liquidity
21. Cash Equivalent
22. Investing Activities
23. Extraordinary
24. Accounting
25. Solvency
26. Operating Activities
27. Financing Activities
28. Appropriation

Summary

Financial Statements: Financial statements are the basic and formal annual reports
through which the corporate management communicates financial information to its
owners and various other external parties which include-investors, tax authorities,
government, employees, etc. There are two main financial statements. They are: (1)
balance sheets; (2) income statements.

Balance sheet: The Balance Sheet shows what a company owns and what it owes at a
fixed point in time.

Income statement: The Income Statement shows how much money a company made
and spent over a period of time.

Users of financial statements: These include investors and potential investors;


lenders/long term creditors; management; suppliers/short term creditors; employees
and trade unions; government and its agencies; stock exchange and its customers

Ratio Analysis is the relationship between two items of financial data expressed in the
form of ratios and then interpreted with a view to evaluating the financial condition
and performance of a firm.

Objectives of Ratio Analysis

The analysis would enable the calculation of not only the present earning capacity of
the business but would also help in the estimation of the future earning capacity. The
analysis would help the management to find out the overall as well as the department-
wise efficiency of the firm on the basis of the available financial information. The
short term as well as the long term solvency of the firm can be determined w3ith the
help of ratio analysis. Inter-firm comparison becomes easy with the help of ratios.

Advantages of Ratio Analysis

Ratio Analysis simplifies Financial Statements, facilitates inter-firm comparison;


makes intra-firm comparison possible and helps in forecasting

Limitations of Ratio Analysis

Ratio Analysis is historical in nature; changes in price level often make comparison of
figures of the previous years difficult. It is not free from bias. Some companies, in
order to cover up their bad financial position report to window dressing. Ratio
Analysis ignores qualitative factors and different accounting practices render ratios
incomparable

Types of Ratios
Financial ratios can be classified into four important categories:
1. Liquidity Ratios: Liquidity ratios help the users in knowing the extent of
short-term debt paying ability of a firm. They include current ratio and quick ratio.
2. Solvency Ratios: Solvency ratios analyse the long-term debt paying capacity
of the firm. They include Debt equity ratio; Total Assets to Debt Ratio; Proprietary
ratio and Interest Coverage Ratio.

3. Activity or Turnover Ratios: Activity ratios help in commenting on the


efficiency of the firm in managing it assets. The speed with which assets are
converted into sales is captured by activity ratios. These include Stock Turnover;
Debtors (Receivable) Turnover; Creditors (Payable) Turnover; Fixed Assets Turnover
and Working Capital Turnover.

4. Profitability Ratios: Profitability ratios are calculated to measure the


profitability of a business enterprise. These include Gross Profit Ratio; Net profit
Ratio; Operating Ratio; Operating Profit ratio; return on Investment (ROI); Earnings
per Share; Price Earning Ratio and Dividend payout ratio

RATIOS AT A GLANCE

Ratio Formulae
1. Current ratio Current assets
Current liabilities
2. Quick ratio Quick assets
Current liabilities
3. Inventory turnover ratio Cost of goods sold
Average inventory
4. Debtors (receivables) turnover ratio Annual Net credit sales
Average accounts receivables
5. Debt (receivables) collection period 365 days/52 weeks/ 12 months
Debtors turnover ratio
6 Creditors turnover ratio Net Credit Purchase
Average Creditor Net
7. Average Credit Payment period 365 days/52 weeks/ 12 months
Creditor turnover ratio
8. working capital Turnover
Net Sale
working Capital
9. Fixed Asset Turnover ratio Net sale or cost of sale
Net fixed assets
10. Current assets turnover ratio Net sales
Current assets
11. Debt- equity ratio Total long term debt
Shareholders’ funds
12. Total assets to debts Total assets
Long term debts
13. Proprietary ratio Shareholders Funds
Total assets
14. Gross Profit ratio Gross Profit/Net Sales × 100
15. Net Profit Ratio Net profit / Net Sales × 100
16. Operating ratio Operating cost X 100
Net sales
17. Operating profit ratio Operating profit X 100
Net sales
18. Return on capital employed (ROI) Net profit before interest, tax & dividend
X 100
Capital employed
19. Earnings per share (EPS) Net income after interest,tax and preference dividend X
100
Number of equity shares
20. Dividends per share Dividends amount
Numbers of equity share
21. Price earning ratio Market price of share
EPC
22. Dividend payout ratio Dividend per share
Earning per share

 Meaning of cash flow statement : It is a statement which is prepared to show


the flow of cash in a business undertaking.

 OBJECTIVES :
(i) helpful in making financial policies
(ii) helpful in decision making to declare dividend.
(iii) CFS is different than each Budget.
(iv) Helpful in devising the each question.
(v) helpful in telling reasons for difference between profit and loss

 USES :
(i) helps in making short short term planning
(ii) helps understanding liquidity & solvency.
(iii) helps in comparative study.
(iv) tests for management decision
 LIMITATION :
1. Non each transaction are ignored.
2. Not suitable for an income statement
3. Historical in nature.
 Operating Activities : Operating activities are the principal revenue-producing
activities of the enterprise and other activities that are not investing or financing
activities.
 Investing Activities : Investing activities are the acquisition and disposal of
long-term assets and other investments not included in cash equivalents.
 Financing Activities : Financing activities are the activities that result in
change in the size and composition of the owners’ capital (including preference) share
capital in the case of a company) and borrowing of the enterprise.

Very Short and short Answer Questions


1. State whether the following statements are true or false.
(a) Provision is the amount set aside or written off for any known
liability.
(b) Unclaimed dividend is shown on the assets side of the balance
sheet of the company.
( c) Preliminary expense is a current liability.
(d) In the balance sheet of a company the items goodwill, patents
and trade marks are shown under the heading fixed assets.
(e) Discount allowed on the issue of shares or debentures is shown in
the assets side of the balance sheet.
(f) Debentures are shown in the balance sheet under the item
unsecured loans.
(g) Share forfeiture account is shown in the balance sheet under
share capital account.
(h) Unclaimed dividend is shown in the balance sheet under the
item current liabilities.
(i) Securities premium account is shown on the liability side of the
balance sheet under the heading share capital.
[Ans. (a) True (b) False (c) False (d) True (e) True (f) False (g) True (h) True (i)
False]

2. Indicate whether following items belong to the asset side or the liability side
of the balance sheet of a company.
(a) Calls unpaid.
(b) Preliminary expenses
( c) Capital redemption reserve
(d) Acceptances
(e) Proposed dividend
(f) Unexpired payments

[Ans. (a) Liability (b) Asset (c) Liability (d) Liability (e) Liability (f) Asset ]

3. What is the contingent liability? Where it is shown in the Balance sheet? Give
three examples of contingent liabilities.

4. How would you disclose the following items in the balance sheet of a limited
company:-
(i) Loose tools (ii) Stock (iii) Goodwill (iv) Discount on issue of debentures
not yet written of (v) Securities premium.

5. Re-arrange the following assets in the proper order as per schedule VI Part I of
Companies Act 1956.

Loans and advances


Miscellaneous expenditure
Current assets
Investments
Fixed assets

6. Correct the order of assets and liabilities according to the provision of


schedule VI part I.

Liabilities Assets
Subscribed capital Loans and advances
Unsecured loans miscellaneous expenditure
Provisions Current assets
Secured loans Investments
Reserve and surplus Fixed assets
Current liabilities

7. Point out whether following statement are true or false?


a) Current ratio improves increases in credit purchases.
b) Liquidity ratio improves with increase in credit sale.
c) Working capital is the excess of current assets over current liability.
d) Current ratio measures the liquidity of the business.
e) Debt equity ratio measures short term financial position of the business
Ans- A) False b) True c) True d) True e) false

8. Assuming the current ratio is 2 , state in each of the following cases whether
the ratio will improve or decline or will have no change.
a. Payment of a current liability
b. Purchase of fixed assets
c. Cash collected from customers
d. Issue of new share
Ans- A) improve b) decline c) No change d) Improve

9. The current ratio of a company is 25: 1. Which of the following suggestion


would improve , reduce or not change it?
i) Payment to trade creditors
ii) Sale of machinery for cash
iii) Purchase of goods
iv) Issue of equity share

Ans- A) improve b) improve c) No change d) Improve

10. What are the category under which the various ratios are grouped?
11. What does debt- equity ratio indicates?
12. What is stock – turnover ratio, how it is calculated? What are the implications
of high and low stock turn over ratio?
13. State the meaning and objective of the following-
a) Proprietary ratio
b) Operating ratio
14. What do you mean by the interest coverage ratio? Explain in brief, giving its
formula?
15. State the significance and method of calculating the following-
a. Current ratio
b. Operating ratio
c. Return on investment ratio(ROI)
16. What are the different names of activity ratios? Name five activity ratios.
17. Describe three ratio based upon sales.
18. Explain in about 50 words the importance of the following ratios-
a. proprietary ratio
b. Debt equity ratio
19. Give the method of computing and the purpose of the following ratios-
a. Acid Test ratio
b. Inventory turnover ratio
c. Debt equity ratio
d. Return on investment ratio

20. What will be the impact of following suggestions on the debt equity ratio,
assuming the given ratio to be 1:2?
a. Issue of equity shares
b. Cash received from debtors
c. Redemption of debentures
d. Purchase of goods on credit.
Ans- A) Decrease b) No change c) decrease d) No change

ESSAY TYPE QUESTIONS


1. What is Cash Flow Statement? How it is prepared? What are its uses?
2. What is Cash Flow Statement? Give three items of sources (inflow) of cash.
3. Explain the uses of cash Flow Statement.
4. Enumerate any three major sources of cash in flow.
5. What is meant by Cash Flow Statement? Explain briefly how the statement is
prepared as per AS-3 (revised).
6. Explain the term ‘Cash Flow’. Give three items of uses (outflow) of cash.
7. Enumerate the various steps involved in the preparation of ‘Cash Flow
Statement’.
21. For calculating ‘cash flow from operating activities from the given figure of
Net Profit earned during a year, how would you deal with increase in Debtors,
Decrease in Stock, Decrease in Bills Payable and Increase in Creditors.
22. For calculating Cash Flow from operating Activities’ from a given figure of
‘Net Profits’ earned during a year, how would you deal with the decrease in
preliminary expenses, decrease in prepaid expenses, increase in inventory and
increase in Bills Payable?
23. Explain the impact of increase in debtors, decrease in inventories, increase in
creditors and decrease in bills payable on the computation of cash flow operating
activities.
24. For calculating cash flow from operating activities from a given figure of Net
Profit earned during a year, how will you deal with the redemption of debentures,
decrease in outstanding expenses, increase in cash balance and decrease in
inventories, decrease in Bills Payable, increase in creditors and increase in debtors.

PRACTICAL QUESTIONS

1. The following figures are extracted from the books of ABC Co. Draw up the
Liabilities side according to law.
Rs.
30,000 shares of Rs. 10 each, Rs. 8 paid up 2,40,000
Securities Premium 20,000
Reserves 35,000
Creditors 45,000
Fixed deposits 25,000
2. The following balances appeared in the books of Utsav Publications Ltd.

Rs.
Goodwill 2,00,000
Plant & Machinery 1,60,000
Building 1,45,000
Cash in hand 10,000
Stock in trade 50,000
10,000 shares of Rs. 10 each, Rs. 8 paid up 80,000
9% debentures 2,50,000
Preliminary expenses 10,000
Creditor 50,000
Dividend Payable 25,000
Prepare balance sheet of company as per the Performa given as per Schedule
VI Part I of the Companies Act 1956.

3. The following ledger balances were extracted from the books of Akash Ltd. on
31st March, 2007:-
Land and Buildings 2,00,000; 12% Debentures Rs.2,00,000; Shares Capital
Rs.1,00,000; Equity Shares of Rs.12each fully paid up; Plant and Machinery
Rs.8,00,000; Goodwill Rs.2,00,000; Investments in shares of Raja Ltd. Rs.2,00,000;
General reserve Rs.2,00,000; Stock in trade Rs.1,00,000; Bills Receivable Rs.50,000;
Debtors Rs.1,50,000; Creditors Rs.1,00,000; Bank Loan (Unsecured) Rs. 1,00,000;
Provision for taxation Rs.50,000; Discount on issue of 12% debentures Rs.5,000;
Proposed dividend Rs.55,000.
You are required to prepare the balance sheet of the company as per schedule
VI Part I of the companies Act, 1956.

4. Manu Ltd. has an authorized capital of Rs.50,00,000 divided into equity shares of
Rs.10 each. The company invited applications for 3,00,000 shares. Applications for
2,75,000 shares were received. All calls were made and were duly received except the
final call of Rs.3 per share on 5,000 shares. 4,000 of the shares on which the final call
was not received were forfeited. Show how share capital will appear in the Balance
sheet of the company as per schedule VI part I of the companies act 1956?

5. The following balances have been extracted from the books of Rishi Ltd. on
31.3.1996; Share capital Rs.10,00,000, securities premium Rs.1,00,000, 12%
debentures Rs.5,00,000, creditors Rs.2, 00,000, proposed dividend Rs.50,000, profit
and loss account (Dr) Rs.50,000, discount on issue of 12% debentures Rs. 1,00,000.
Prepare the balance sheet of the company as per schedule VI part I of the companies
act 1956.

6. The following balances are supplied on the basis of which you are required to show
the major appropriate heads under which the items given below will appear in the
balance sheet of Rajco Ltd. as on 31st March 2007:
Rs.
Plant & Machinery 5,60,000
Building 10,00,000
Equity share capital (Authorised) 20,00,000
Equity share of Rs.100 each Rs.70 called and paid up 14,00,000
10% debentures 55,000
Discount on Issue of 10% debentures 5,000
Furniture and fixtures 15,000
Long Term Bank Loan (secured) 1,25,000

7. Prepare a balance sheet of Vikas Ltd. as on March 31, 2007 as per provisions
of Part-I, Schedule VI, Under section 211 of the companies Act 1956 from the
following information.
Rs.
General reserve 3,000
Debentures 3,000
Profit & Loss A/c (Cr.) 1,200
Depreciation on Fixed Assets 700
Gross Fixed Assets 9,000
Current Liabilities 2,500
Preliminary Expenses 300
Preference Share Capital 5,000
Current Assets 6,100

8. The following figures were extracted from the trial balance of XYZ Ltd.:
Share Capital: 10,000 Equity Shares of Rs.10 each fully called up and paid up.
Rs.
Securities Premium 10,000
12% debentures 50,000
Fixed Deposits (Cr.) 25,000
Creditors 5,000

You are required to draw up the liabilities side of the balance sheet of the company
according to the requirements of the companies act.

9. The following balances appear in the books of Ruia Publications Ltd.:

Rs.
Goodwill 20,000
Plant & Machinery 1,60,000
Building 1,45,000
Cash at hand 10,000
Stock in trade 70,000
Share capital: 1,000 equity shares of Rs.100
each issued at Par, Rs.80 per share called up and paid up 80,000
8% debentures 2,50,000
Preliminary expenses 5,000
Creditor 55,000
Dividend Payable 25,000

Showing the above items under the major; heads in accordance with Part I of
Schedule VI of the Companies Act 1956, prepare a balance sheet of the company.

10. Find out current ratio.


Gross Debtors Rs. 20,000; Provision for Bad debts Rs. 3,000; Bills receivable
Rs. 13,000; Stock twice of net debtors; Cash in hand Rs. 16,000; Advance to suppliers
Rs. 15,000; Creditors for goods Rs. 27,000; Bills payable Rs. 8,000; Outstanding
expenses Rs. 15,000; Prepaid expenses Rs. 5,000 Investment (Long term) Rs. 12,000;
[Ans. Current Ratio 2:1]

11. Find out current liabilities when current ration is 2.5:1 and current assets are
Rs. 75,000.
[Ans. Current Liabilities Rs. 30,000]

12. The ratio of current assets (Rs. 6,00,000) to current liabilities is 1.5:1. The
accountant of this firm is interested in maintaining a current ratio of 2:1 by paying
some part of current liabilities. You are required to suggest him the amount of current
liabilities which must be paid for this purpose.
[Ans. Rs. 2,00,000]

13. A firm had current liabilities of Rs. 90,000. It then acquired stock-in-trade at a
cost of Rs. 10,000 on credit. After this acquisition the current ratio was 2:1.
Determine the size of current assets and working capital after and before the stock
was acquired.
[Ans. C.A. Rs. 2,00,000, Rs. 1,90,000; W.C. Rs. 1,00,000, Rs. 1,00,000]

14. A Ltd. company has a current ratio of 3.5:1 and acid test ratio of 2:1. If the
inventory is Rs. 30,000, find out its total current assets and total current liabilities.
[Ans. Current Assets Rs. 70,000; Current Liabilities Rs. 20,000]

15. Given: Current ratio 2.8; Acid test ratio 1.5; Working capital = Rs. 1,62,000.
Find out: Current assets;, Current liabilities; Liquid Assets.
[Ans. A) Rs. 2,52,000; (b) Rs. 90,000; (c) 1,35,000]

16. From the following, calculate Debt-Equity Ratio.


Equity share capital Rs. 1,50,000. Preference Share capital Rs. 50,000, General
reserves Rs. 1,00,000, Accumulated profits Rs. 60,000, Debentures Rs. 1,50,000.
Sundry creditors Rs. 80,000, Expenses payable Rs. 20,000. Preliminary Expenses not
yet written off Rs. 10,000.
[3 :7]

17. Calculate Debt Equity Ratio from the Balance Sheet of X Ltd. as on 31st
March 2007

Liabilities Rs. Assets Rs.


Equity shares of Rs. 10 each
11% preference share capital
Securities premium account
General reserve
Profit and Loss account
12% Debentures of Rs. 100 each
Bills payable
Trade creditors
Outstanding Expenses
Provision for tax 8,00,000
4,00,000
80,000
5,80,000
1,40,000
10,00,000
80,000
1,40,000
60,000
2,20,000 Land and Buildings
Plant and Machinery
Furniture and fittings
Stock
Trade debtors
Cash in hand
Cash at bank
Bills receivable 6,20,000
12,00,000
1,80,000
5,30,000
4,70,000
65,000
3,00,000
1,35,000
35,00,000 35,00,000

[Ans. 1 :2]

18. From the following calculate debt-equity ratio:

Rs.
Preference share capital 2,00,000
Equity share capital 4,00,000
Capital reserves 1,00,000
Profit & Loss account 1,00,000
14% Debentures 2,00,000
Unsecured loans 1,00,000
Creditors 40,000
Bills payable 20,000
Provision for taxation 10,000
Provision for dividends 20,000

[Ans. 0.375 : 1]

19. The debt-equity ratio of a company is 1:2. Which of the following suggestions
would (i) increase, (ii) decrease, and (iii) not change it.

a) Issue of equity shares,


b) Cash received from debtors
c) Redemption of debentures for cash,
d) Purchased goods on credit,
e) Redemption of debentures by conversion into shares,
f) Issue of shares against the purchase of a fixed asset,
g) Issue of debentures against the purchase of a fixed asset.
[Ans.(a) (ii), (b) (iii), (c) (ii), (d) (iii), (e) (ii), (f) (ii), (g) (i)]

20. Debtors in the beginning Rs. 90,000; debtors at the end Rs. 96,000 credit sales
during the year Rs. 4,65,000. calculate debtors turnover ration.

[Ans. 5 times]

21. Rs. 1,75,000 is the net credit sales of a concern during 1989. If debtors
turnover is 8 times, calculate debtors in the beginning and at the end of the year.
Debtors at the end is Rs. 7,000 more than at the beginning.

[Ans. Rs. 18,375 and Rs. 25, 375]

22. From the following figures, compute the debtors turnover ratio:
Year I
Year II
Rs.
Rs.
Gross sales 9,50,000 8,00,000
Sales returns 50,000 50,000
Debtors in the beginning of year 86,000 1,17,000
Debtors at the end 1,17,000 86,000
Provision for doubtful debts 7,000 6,000

[Ans. 1 year 8,87 times II year 7.39 times]

23. Opening stock Rs. 76,250; Closing Stock Rs. 98,500; Sales Rs. 5,20,000;
Sales Returns Rs. 20,000; Purchases Rs. 3,22,250. Calculate stock turnover ratio.

[Ans. 3.43 times]

24. Average stock carried by a trader is Rs. 60,000 stock turnover ratio is 10
times. Goods are sold at a profit of 10% on cost. Find out the profit.

[Ans. Profit Rs. 60,000]

25. If inventory turnover ratio is 5 times and average stock at cost is Rs. 75,000,
find out cost of goods sold.

[Ans. 3,75,000]

26. You are given the following data.


Gross profit at 30% on sales = Rs. 60,000
Stock turnover = 7 times
The opening stock is 5,000 less then the closing stock.
Accounts payable (opening) Rs. 30,000; Accounts payable (closing) Rs. 38,000.
Find out (a) Net purchases (b) Accounts payable turnover (c) Average age of
creditors.
[Ans. (a) Rs. 1,45,000; (b) 4.26 times (c) 85.6 days]

27. From the following information, calculate creditors at the beginning of the
year:

Rs.
Total purchases 22,00,000
Cash purchases (included in above) 10,00,000
Creditors turnover ratio-4 times creditor 2,50,000

[Ans. 3,50,000]

28. Calculate working capital turnover ratio from the following data:
Rs.
Cost of goods sold 1,50,000
Current assets 1,00,000
Current liabilities 75,000

[Ans. 6 times]

29. From the following, compute working capital turnover;


Rs.
Sales 25,20,000
Current assets 15,60,000
Current liabilities 6,00,000

[Ans. 2.6 times]

30. Find out the working capital turnover ratio:


Rs.
Cash 10,000
Bills receivable 5,000
Sundry debtors 25,000
Stock 20,000
Sundry creditors 30,000
Cost of sales 1,50,000

[Ans. 5 times]

31. Capital employed Rs. 1,00,000, Working capital Rs. 20,000, Cost of goods
sold Rs. 3,20,000, Gross profit Rs. 80,000. Calculate fixed assets turnover ratio
assuming that there were no long-term investments.

[Ans. 5 times]

32. Calculate Gross Profit ratio:


Sales 1,60,000 Purchases 90,000
Sales return 10,000 Purchases returns 10,000
Opening stock 30,000 Closing Stock 10,000

[Ans. 33 1/3 %]

33. From the following details calculate the operating ratio:

(a) Rs.
Cost of goods sold 5,20,000
Operating expenses 1,80,000
Net sales 8,00,000

(b)
Cost of goods sold 8,00,000
Operating expenses 40,000
Sales 10,50,000
Sales return 50,000
(c)
Sales less Return 1,00,000
Gross Profit 40,000
Administrative expenses 10,000
Selling expenses 10,000
Income from Investments 5,000
Loss due to fire 3,000

(d) Trading and Profit & Loss Account for the year ended 31st December,2007

Particulars Rs. Particulars Rs.


To stock 1.4.93
To Purchase
To Wages
To gross profit 35,000
2,25,000
6,000
1,84,000 By Sales
By Stock at end 4,00,000
50,000
4,50,000 4,50,000
To administrative exp.
To selling & distribution exp.
To loss on sale of plant
To net profit 10,000
14,000
10,000
1,50,000 By Gross Profit 1,84,000
1,84,000 1,84,000

(Ans. (a) 87.5% (b) 84% (c) 80% (d) 60%)


34. Opening stock Rs. 80,000; Purchase Rs 4,30,900; Direct expenses Rs 4,000;
Closing stock Rs. 1,60,000; Administrative expenses Rs 21,100; Selling and
distribution expenses Rs 40,000; Sales Rs 10,00,000 Calculate :
(a) Gross Profit ratio
(b) Operating ratio

(Ans. Gross Profit ratio = 64.52%, Operating ratio = 41.6%)

35.From the following information, calculate stock turnover ratio, operating ratio and
capital turnover ratio.
Rs.
Opening Stock 28,000
Closing Stock 22,000
Purchases 46,000
Sales 90,000
Sales return 10,000
Carriage inwards 4,000
Office expenses 4,000
Selling and distribution expenses 2,000
Capital employed 2,00,000

( Ans. (a) 2.24 times (b) 77.5% (c) .4 times)

36. Calculate the following ratios, from the details given as under :
(a) Current ratio
(b) Acid test ratio
(c) Operating ratio
(d) Gross profit ratio
Rs.
Liquid assets 40,000
Current liabilities 20,000
Stock 10,000
Sales 50,000
Operating expenses 15,000
Cost of goods sold 20,000

(Ans. (i) 5:2 (ii) 2:1 (iii) 70% (iv) 60%)

37. Balance sheet of ‘A’ Ltd. is given below :

Liabilities Amount(Rs.) Assets Amount(Rs.)


Paid up equity
Share capital :
15% debentures
P&L a/c( for the current
Ear after taxes)
General reserve
Current liabilities
4,00,000
2,00,000
3,00,000
3,00,000
5,80,000 Building
Machinery
Debtors
Stock
Bank 6,00,000
1,20,000
6,50,000
3,50,000
60,000
17,80,000 17,80,000

Additional Information:
Net sales for the current year Rs. 57,60,000
Compute any three of the following ratios:
(a) Net profit ratio
(b) Fixed assets turnover ratio,
(c) Debt equity ratio
(Ans. Net profit ratio 5.21(Approx), Current ratio 1.83 :1, Fixed asset turnover ratio 8
times, Debt lequity ratio 1:5)

38. From the following information calculate any three of the following ratios:
(a) Gross Profit ratio
(b) Working capital turnover ratio
(c) Debt-equity ratio
(d) Proprietary ratio
Information:
Net sales Rs 5,00,000; Cost of goods sold Rs. 3,00,000; Current assets Rs. 2,00,000;
Current liabilities Rs. 1,40,000; paid up share capital Rs. 2,50,000; 13% Debentures
Rs 1,00,000.
(Ans. G.P. Ratio 40%; Working Capital T.O. Ratio 8.83 times; Debt Equity Ratio
40%; Proprietary Ratio 51%)

39. From the following information, calculate the stock turnover ratio and the
gross profit ratio.
Rs.
Opening stock 18,000
Closing stock 22,000
Purchases 46,000
Wages 14,000
Sales 80,000
Carriage inwards 4,000
[Ans. Gross profit ratio 25%; stock turnover ratio 3 times]

40. A company has a loan of Rs. 50,00,000 as part of its capital employed. The
interest payable on the loan is 10% and the R.O.I. of the company is 15%. Assuming
that the rate of income tax is 50%, calculate the amount of gain to the shareholders’
because of the loan obtained by the company.
[Ans. Gian to shareholders Rs. 1,25,000]

41. Calculate any three of the following ratios with the help of the information
given below:-

a) Operating ratio
b) Gross profit ratio
c) Quick ratio
d) Working capital turnover ratio
e) Proprietary ratio

Information:
Equity share capital Rs. 1,00,000; 8% preference share capital Rs. 80,000; 9%
debentures Rs. 60,000; General Reserve Rs. 10,000; Sales Rs. 2,00,000; Opening
stock Rs. 12,000; Purchases Rs. 1,20,000; Wages Rs. 8,000; Closing Stock Rs.
18,000; selling and distribution expenses Rs. 2,000; other current assets Rs. 50,000,
fixed assets Rs. 2,12,000 and current liabilities Rs. 30,000
[(a) 62%; (b) 39%; (c) 1.67:1; 9d) 3.21 times; (e) 67.86 %]

42. The following is the Balance Sheet of Vinod Mills Ltd. as on 31st December,
2006:

Rs.
Sundry Creditors
Bills payable
Tax provision
Outstanding expenses
12% Debentures
10% Preference share capital
Equity share capital
Reserve Fund 60,000
1,00,000
1,30,000
10,000
7,00,000
1,00,000
5,00,000
4,00,000 Bank
Trade investments
Book Debts (Debtors)
Stock
Fixed Assets 18,00,000
Less: Depreciation 5,00,000 50,000
1,50,000
2,00,000
3,00,000

13,00,000
20,00,000 20,00,000
Other information supplied is as follows
Rs.
Net sales 30,00,000
Cost of goods sold 25,80,000
Operating expenses 2,20,000

(a) Quick ratio; (b) Total assets to debt ratio; (c) Current ratio; (d) Gross profit ratio;
(e) Operating ratio (f) Net profit ratio.

[Ans. (a) 1.33:1, (b) 2.86:1; (c) 2.33:1; (d) 14%; (e) 93.33%; (f) 6.67%]

43. From the following information, calculate stock turnover ratio, operating ratio;
fixed assets turnover ratio and current assets turnover ratio:-

Rs.
Opening stock 56,000
Closing stock 44,000
Purchases 92,000
Sales 1,80,000
Sales returns 20,000
Carriage inwards 8,000
Office Expenses 8,000
Selling & Distribution Expenses 4,000
Fixed assets 70,000
Current assets 60,000
[Ans. Stock Turnover Ratio 2.24 times; Operating Ratio 77.5%, Fixed assets
Turnover Ratio 1.6 times, Current Assets turnover ratio 1.87 times]

44 From the following data, calculate:-


a) Gross profit ratio,
b) Net profit ratio
c) Working capital turnover ratio,
d) Debt-equity ratio,
e) Proprietary ratio
Rs.
Net sales 30,00,000
Cost of sales 20,00,000
Net profit 3,00,000
Fixed assets 6,50,000
Current assets 6,00,000
Current liabilities 2,00,000
Paid-up share capital 5,00,000
Debentures 2,50,000
[Ans. G.P. ratio= 33 1/3%; N.P. Ratio=10%; Working capital turnover ratio= 5 times;
Debt equity ratio=0.31:1, Proprietary ratio i.e. shareholder’s funds/total assets = 64%]

45. With the help of the given information, calculate any three of the following
ratios:
(a) Operating ratio
(b) Quick ratio
(c) Working capital turnover ratio
(d) Debt equity ratio.

Information: Equity share capital Rs. 50,000; 12% preference share capital
Rs. 40,000; 12% debentures Rs. 30,000; General Reserve Rs. 40,000; Sales Rs.
3,00,000; Opening stock Rs. 20,000; Purchases Rs. 1,40,000; Wages Rs. 30,000;
Closing stock Rs. 40,000; Selling and distribution expenses Rs. 18,000; Other Current
assets Rs. 1,00,000 and current liabilities Rs. 60,000.
[Ans. (a) 56%; (b) 1.67:1; (c) 1.875 times; (d) 0.23.1

OBJECTIVE TYPE QUESTIONS


I. Indicate whether increase in debtors / current assets results in :
(i) Increase in cash
(ii) Decrease in cash
(iii) Non of the above.

II. Indicate whether increase in current liabilities results in :


(i) Increase in cash
(ii) Decrease in cash
(iii) None of the above.

III. State whether the following would result in inflow or outflow of cash :
(i) Issue of shares
(ii) Payment of dividend
(iii) Purchase of fixed assets
(iv) Cash from operations (profits)
(v) Sale of fixed assets
(vi) Redemption of debentures

IV. Fill in the blanks :


(a) Net profit are Rs. 20,000. There is an increase in the amount of debtors of
Rs. 5,00. What would be the amount of cash flow from operating activities
(Rs. 20,000, Rs.15,000 Rs. 25,000)
I II III
(b) Net profit are Rs. 12,500, after debiting depreciation Rs. ,3500 andn there is a
decrease in stock worth Rs. 2,700. The cash flow from operating activities would be
(Rs. 16,000, Rs.15,200 Rs. 18,700)
I II III
Ans. I. decrease in cash (II) Increase in Cash (III) i) in Flow (ii) out flow (iii)
out flow (iv) in flow (v) in flow (vi) outflow. (IV) (a) 1500 (b) 18700

B. SHORT ANSWER QUESTIONS


1. What is ‘Cash Flow Statement’? Explain.
2. Write what is inflow of each and outflow of cash?
3. What are non-operating Expenses and Incomes.
4. Write about treatment of depreciation in a Cash Flow Statement.
5. What do you know about Treatment of Dividend declared and paid in a Cash
Flow Statement
6. Write about treatment of provision for tax and tax paid in Cash Flow
Statement.

EXERCISE :
1. Calculate cash flow from operating activities from the following information :
Rs.
Sales 1,20,000
Purchases 70,000
Wages 25,000
Assume that all the transactions were in cash. Ans (Rs 25,000)
2. Calculate cash flow from operating activities from the following figures :
(Rs.)
Sales 2,75,000
Cost of Sales 2,25,000
Opening Balance of Debtors 20,000
Closing Balance of Debtors 20,000
Opening Balance of Creditors5,000
Closing Balance of Creditors 10,000
Opening Balance of Outstanding Expenses 1,250
Closing Balance of Outstanding Expenses 2,750
Ans. (51500)

3. Calculate cash flow from operating activities after calculating adjusted profit
from the following : Rs.
(i) Depreciation allowed 15,000
(ii) Loss on Sale of Machine 2,500
(iii) Discount on Issue of Shares written off 1,000
(iv) Goodwill written off 1,500
(v) Transfer to General Reserve 2,000
(vi) Net Profit after above adjustments 15,000
(vii) Increase in Current Assets 2,500
(viii) Decrease in Current Liabilities 3,500
Ans. (31,000)
5. Calculate cash flow from operating activities from the following :

Particulars 2004
Rs 2005
(Rs.)
Profit and Loss Appropriation A/c
Bills Receivables
Provisions for Depreciation
Rent Outstanding
Prepaid Insurance
Goodwill
Stock 20,000
14,000
30,000
1,600
1,400
20,000
14,000 30,000
18,000
32,000
4,000
1,200
16,000
18,000
Ans. (Rs. 10,600)
6. Calculate cash flow from operating activities from the following Profit and
Loss A/c of a business for the year ended on 31.3.2005 :

Particulars Rs. Particulars Rs.


To Salaries
To Depreciation on fixed assets
To Preliminary Exp. w/off.
To Discount on issue of deb.
To General Reserve
To Discount on Sales
To Goodwill
To Net Profit 22,300
8,200
1,500
1,000
12,000
4,180
3,220
16,600
By Gross Profit
By Rent Received
By Profit on Sale of fixed assets 54,500
3,200
11,300

69,000
Ans. (Rs. 31,220)
7. Calculate cash flow from operating activities from the following details:
Particulars 31.3.07
Rs 31.3.08
(Rs.)
Profit and Loss A/c
General Reserve
Provisions for Depreciation
Prepaid Expenses
Unearned Incomes
Outstanding Expenses
Goodwill
Sundry Creditors
Bills Receivable 45,000
5,000
18,000
2,400
1,500
800
10,000
5,000
6,400 60,000
10,000
28,000
1,800
2,500
1,200
7,000
3,000
9,600
Ans. (Rs 29,800)
8. Calculate cash flow from operating activities from the following data :
I. Profits made during the year Rs. 1,45,000 after considering the following
items :
(Rs)
a) Amortisation of Goodwill 3,000
b) Depreciation of Fixed Assets 17,000
c) Loss on Sale of Fixed Assets 2,500
d) Transfer to General Reserve 15,000

II. The following is the position of current assets and current liabilities :

Particulars 31.3.07
Rs 31.3.08
(Rs.)
Creditors
Debtors
Prepaid Expenses
Bills Payable 12,000
16,200
250
5,000 8,200
12,000
750
7,000
Ans. (Rs. 1,84,400)
9. Compute cash flow from operating activities from the following Profit and
Loss A/c :

Particulars Rs. Particulars Rs.


To Expenses
To Depreciation
To Loss on Sale of Machine
To Discount
To Goodwill
To Net Profit 3,00,000
70,000
4,000
200
20,000
1,15,800
5,10,000
By Gross Profit
By Gain on Sale of Fixed Assets 4,50,000
60,000

5,10,000

Ans. (Rs. 1,50,000)

10. Compute cash flow from operating activities from the following data :

Particulars 31.3.07
Rs 31.3.08
(Rs.)
Profit and Loss A/c
General Reserve
Goodwill
Depreciation
Discount on Issue of Debenture
Sundry Debtors
Sundry Creditors
Bills Payable 15,950
1,200
5,000
4,500
500
4,100
1,500
5,300
3,300 24,400
1,800
3,000
6,300
350
2,800
2,100
2,900
2,100
Ans. (Rs 26,100)

11. The following is the position of current assets and current liabilities of X Ltd. :
2007 (Rs) 2008(Rs.)
Provision for Bad debts 1,000
Short term loans 10,000 19,000
Creditors 15,000 10,000
Bills Receivable 20,000 40,000
The company incurred a loss of Rs. 45,000 during the year. Calculate cash
from operating activities.
Ans. (Rs. 62,000)

12. The following is the position of current assets and current liabilities :

Particulars 2007
Rs 2008
(Rs.)
Profit & Loss Appropriation A/c
Bills Receivable
Provision for Depreciation
Outstanding Rent Payable
Prepaid Insurance
Goodwill
Stock 2,000
1,400
3,000
160
140
2,000
1,400 3,000
1,800
3,200
480
120
1,600
1,800
Ans. (Rs. 1060)
13. Compute cash flow from operating activities from the following details :

Particulars 2007
Rs 2008
(Rs.)
Profit & Loss A/c
Debtors
Outstanding Rent
Goodwill
Prepaid Insurance
Creditors 1,10,000
50,000
24,000
80,000
8,000
26,000 1,20,000
62,000
42,000
76,000
4,000
38,000
Ans. (Rs. 36,000)
14. Calculate cash flow from operating acidities during 2007-08 from the
following :

Liabilities 2007 2008 Assets 2007 2008


Capital
Debentures
Accumulated Profits
Trade Creditors 50
60
30
60

200
70
40
50
90

250 Cash & Bank


Trade Debtors
Stock
Goodwill
Machinery
30
40
50
30
50
200 40
60
60
20
70
250
Ans. (Rs. 40,000)

15. From the following information, calculate cash from operating activities :

Particulars 2007
Rs 2008
(Rs.)
Stock
Debtors
Creditors
Expenses Outstanding
Bills Payable
Accrued Income
Profit & Loss A/c 6,000
2,500
3,200
350
3,500
800
8,000 5,000
2,300
2,800
450
2,200
900
9,000
Ans. (Rs. 500)

16. Calculate cash from operating activities from the following Profit and Loss
account.

Profit and Loss Account


(for the year ending on 31.3.08)
Dr. Cr.
.
Particulars Rs. Particulars Rs.
To Salaries
To Rent
To Provision for Bad debts
To Depreciation
To Loss on Sale of land
To Goodwill written off
To Proposed dividend
To Provision for tax
To Net Profit 1,800
1,000
200
400
300
500
700
400
2,500
7,800
By Gross Profit
By Profit on Sale of Plant
By Income Tax Refund 6,500
700
600

7,800

Ans. (Rs. 3700)


17. From the following information prepare a Cash Flow Statement :-
(Rs)
Operating Cash Balance 15,000
Closing Cash Balance 19,000
Increase in Creditors 13,000
Decrease in Debtors 17,000
Fixed assets purchase 30,000
Redemption of 12% debentures 14,000
Profit for the year 18,000

Ans. Cash flow from operating investing and financing activities = Rs. 48000, Rs.
30,000 Rs. 14,000).

18. From the following information prepare a Cash Flow Statement :-


(Rs)
Operating Cash Balance 1,00,000
Closing Cash Balance 1,20,000
Increase in Creditors 50,000
Decrease in Debtors 70,000
Fixed assets purchase 2,00,000
Redemption of 12% debentures 5,00,000
Profit for the year 2,00,000

Ans. Cash flow from operating investing and financing activities = Rs. 320,000 Rs.
2,00,000 & Rs. 5,00,000).

19. Calculate Cash Flow operating acidities from the following Profit and Loss
A/c for the year ending on 31.3.05:

Liabilities 2007 Particulars 2008


(Rs.)
To Salaries
To Depreciation
To Loss on Sale of Plant
To Goodwill written off
To Provision for tax
To Net Profit 2,500
200
100
400
1,000
1,100

5,300
By Gross Profit
By Profit on Sale of land
By Income tax Refund 4,500
400
400

5,300
Ans. (Rs 2,000)

20. From the following Balance Sheets of M/s Rahman & Bros. Ltd. prepare a
Cash Flow Statement as per (AS-3 (Revised) :

Liabilities 2007
(Rs.) 2008
(Rs.) Assets 2007
(Rs 2008
(Rs.)
Equity Share Capital
15% Preference Share
Capital
General Reserve
Profit & Loss A/c
Creditors
1,50,000

75,000
20,000
20,000
32,500

2,97,500 2,00,000

50,000
35,000
24,000
49,500

3,58,500 Goodwill
Buildings
Plant
Debtors
Stock
Cash

36,000
80,000
40,000
1,19,000
10,000
12,500

2,97,500 20,000
60,000
1,00,000
1,54,500
15,000
9,000

3,58,500
Depreciation charged on Plant was Rs. 10,000 and on building was Rs.
20,000.
Ans. (Rs. 41,500 Rs. 70,000 & Rs. 25,000)

21. Prepare Cash Flow Statement as per AS.3 (Revised) from the following
Balance Sheets of 2007 and 2008.

Liabilities 2007
(Rs.) 2008
(Rs.) Assets 2007
(Rs 2008
(Rs.)
Equity Share Capital
Reserve & Surplus
Bank Loan
Creditors
Bank Overdraft
Proposed Dividend 30,000
8,500
10,000
31,000

4,500

84,000
40,000
11,000
7,500
39,000
500
6,000

1,04,000 Fixed Assets


Less: Accumulated
Depreciation

Investments
Stock
Debtors
Bank
40,000

8,000
32,000
8,000
20,000
21,000
3,000
84,000
65,000

13,500
51,500
11,000
22,500
19,000

1,04,000
Ans. (Rs. 14,500, Rs. 2,500, Rs. 7,500)

22. Following are the comparative Balance Sheets of Washi & Bros. Ltd.. for the
year 2007 and 2008.

Liabilities 31.3.07
(Rs.) 31.3.08
(Rs.) Assets 31.3.07
(Rs 31.3.08
(Rs.)
Share Capital
15% Debentures
Trade Creditors
Provision for doubtful
debts
Profit & Loss A/c
70,000
12,000
10,360
700

10,040
1,03,100 74,000
6,000
11,840
800

10,560
1,03,200 Cash
Trade Debtors (good)
Stock in trade
Land
Goodwill
9,000
14,900
49,200
20,000
10,000
1,03,100 7,800
17,700
42,700
30,000
5,000

1,03,200
Ans. (Rs. 10,800, Rs 10,000 & Rs. 2000)

Additional Information :
(i) Dividends were paid totaling Rs. 3,500
(ii) Land was purchased for Rs. 10,000
(iii) Amount provided for amortization of goodwill Rs 5,000
(iv) Debenture loan was repaid Rs 6,000

You are required to prepare a Cash Flow Statement as per AS-3 (Revised)

23. The Balance Sheets of MD & Sons Ltd. as on 31.3.07 and 31.3.08 were as
follows :

Liabilities 31.3.07
(Rs.) 31.3.08
(Rs.) Assets 31.3.07
(Rs 31.3.08
(Rs.)
Equity Share Capital
General Reserve
Profit & Loss A/c
15% Debentures
Creditors
90,000
10,000
20,000

37,400

1,57,400 1,30,000
15,000
30,000
20,000
42,000

2,37,000 Fixed Assets


Stock
Debtors
Bank
Preliminary Expenses

93,400
22,000
36,000
4,000
2,000

1,57,400 1,66,000
26,000
39,000
5,000
1,000

2,37,000

Additional Information :

(i) Depreciation written off on Fixed Assets Rs. 23,400


(ii) Dividend paid on Equity Share Capital Rs. 20,000
Prepaid Cash Flow Statement as per AS-3 (Revised)
Ans. (Rs. 57000, Rs. 96,000 & Rs. 40,000)
24. Following are the Balance Sheets of Ali & Bros. Ltd.

Liabilities 31.3.07
(Rs.) 31.3.08
(Rs.) Assets 31.3.07
(Rs 31.3.08
(Rs.)
Equity Share Capital
15% Redeemable
Preference Share
Capital
General Reserve
Profit & Loss A/c
Current Liabilities:
Proposed Dividend
Sundry Creditors
Bills Payable
Outstanding Salary
Provision for Tax

4,80,000
2,60,000

48,000

67,200
70,000
17,200
39,200
67,200
10,48,800 7,20,000
1,20,000

72,000
64,800

93,600
1,00,000
27,200
14,400
76,800

12,88,800 Investments
Discount on
Issue of Shares
Factory Buildings
Machinery
Fixed Deposits
Preliminary Expenses
Current Assets
Sundry Debtors
Stock
Bank
Cash
42,200

1,20,000
2,00,000
2,16,000
24,000
24,000

1,80,000
2,04,000
30,600
7,000

10,48,000 —

96,000
1,20,000
4,58,400
84,000
16,800

2,59,200
1,87,200
50,000
17,200
12,88,800
Ans. (Rs. 1,76,000, Rs. 1,79,200 & Rs. 32,800)
Prepare Cash Flow Statement as per AS-3 (Revised)
25. Following are the Balance Sheets of Shafi & Bros. Ltd. as at 31st March,
2008

Liabilities 31.3.07
(Rs.) 31.3.08
(Rs.) Assets 31.3.07
(Rs 31.3.08
(Rs.)
Share Capital
15% Debentures
General Reserve
Profit & Loss A/c
Prov. for Income Tax
Creditors
Bills Payable
Prov. for doubtful debts 1,00,000
50,000
20,000
11,000
4,000
5,000
2,000
3,000
1,95,000 1,10,000
30,000
20,000
19,000
11,000
4,000
3,000
2,400
1,99,400 Goodwill
Land
Machinery
Stock
Debtors
Preliminary Expenses
Cash

5,000
42,000
60,000
25,000
30,000
3,000
30,000
1,95,000 4,000
66,000
80,000
21,000
24,000
2,000
2,400

1,99,400
Ans. (Rs. 35,900, Rs. 53,500 & Rs. 10,000)

Additional Information :
(i) During the year 2008, a part of Machine costing Rs. 7,500 (Accumulated
depreciation thereon being Rs. 2,500) was sold for Rs. 3,000.
(ii) Income tax was paid Rs, 4,000 during 2008.
(iii) Depreciation on Machinery for 2008 was provided at Rs. 5,000. Prepare Cash
Flow Statement as per AS-3 (revised)

26. From the following Balance Sheets of M/s Neyamat & Bros. Ltd. for two
years 2007 and 2008, prepare cash Flow Statement

Liabilities 31.3.07
(Rs.) 31.3.08
(Rs.) Assets 31.3.07
(Rs 31.3.08
(Rs.)
Share Capital
P & L A/c
15% Debentures
Creditors

36,000
20,000

9,000

65,000 30,000
14,000
5,000
11,000

60,000 Goodwill
Machinery
Stock
Debtors
Cash

5,000
20,000
18,000
19,000
3,000
65,000 6,000
25,000
12,000
15,000
2,000
60,000
Additional Information :
(i) A Machine of the book value of Rs 6,000 was sold for Rs.6,500 during 2008.
(ii) Debentures were redeemed for Rs. 4,900.
(iii) Cash dividend of Rs. 2,500 was paid during 2008.
(iv) Depreciation on Machinery was provided Rs. 1,000
Ans. (Rs. 2100, 4500 & Rs. 4900)
27. From the following Balance Sheets of Shahid & Bros. Ltd. prepare Cash Flow
Statement as per AS-3 (Revised)
Balance Sheet

Liabilities 31.3.07
(Rs.) 31.3.08
(Rs.) Assets 31.3.07
(Rs 31.3.08
(Rs.)
Share Capital
15% Debentures
General Reserve
P & L A/c
Creditors
Bills Payable
Prov. for tax 3,00,000
1,50,000
40,000
72,000
55,000
20,000
40,000
6,77,000
4,00,000
1,00,000
70,000
98,000
83,000
16,000
50,000
8,17,000 Goodwill
Buildings
Debtors
Cash
Bills Receivable
Stock
1,15,000
2,00,000
1,60,000
25,000
20,000
1,57,000

6,77,000
90,000
1,70,000
2,00,000
18,000
30,000
3,09,000

8,17,000
Additional Information :
(i) Depreciation on Building is 15%.
(ii) Income Tax paid is Rs. 40,000.
Note : Provision for tax is to be treated as a non-current liability.
Ans. (Rs. 57,000, Rs NIL & Rs. 50,000)

28. Following are the comparative Balance Sheets of ABC Co. Ltd. for the year
2007 and 2008.
Liabilities 31.3.07
(Rs.) 31.3.08
(Rs.) Assets 31.3.07
(Rs 31.3.08
(Rs.)
Equity Share Capital
15% Debentures
Trade Creditors
General Reserve
Profit & Loss A/c
45,000
10,000
8,700
5,000
10,000
78,700 65,000
20,000
11,000
7,500
15,000
1,18,500 Fixed Assets
Stock
Debtors
Cash
Preliminary Exp.
46,700
11,000
18,000
2,000
1,000
78,700 83,000
13,000
19,500
2,500
500
1,18,500

Prepare Cash Flow Statement. As per AS-3 (revised)


Ans. (Rs. 6,800 Rs. 36,500 & Rs. 30,000)

29. From the following Balance Sheets of Zia-ul-Haque & Co, Prepare Cash
Flow Statement as per AS-3 (revised)

Liabilities 31.3.07
(Rs.) 31.3.08
(Rs.) Assets 31.3.07
(Rs 31.3.08
(Rs.)
Share Capital
Depreciation Reserve
Profit and Loss A/c
15% Debentures
Creditors

80,000
40,000
30,000
40,000
20,000

2,10,000 1,00,000
43,000
50,000
20,000
17,000

2,30,000 Machinery (at cost)


Debtors
Stock
Preliminary Expenses
Bank Balance

1,20,000
40,000
30,000
4,000
16,000

2,10,000 1,44,000
35,000
32,000
3,000
16,000

2,30,000
Ans. (Rs. 24,000, Rs. 24,000, Rs. NIL)

30. From the following Balance Sheets of Bakhte Munaeem Co. Ltd., prepare the
Cash Flow Statement. As per AS-3 (revised)

Liabilities 31.3.07
(Rs.) 31.3.08
(Rs.) Assets 31.3.07
(Rs 31.3.08
(Rs.)
Share Capital
Depreciation Reserve
Profit and Loss A/c
13% Debentures
Bills Payable
Creditors
1,20,000
9,000
6,000
35,000
15,000
25,000
2,10,000 2,00,000
9,500
9,000
20,000
10,500
51,000
3,00,000 Machinery (at cost)
Debtors
Stock
Bank Balance
Preliminary Expenses
20,000
95,000
37,000
43,000
15,000

2,10,000 1,25,000
80,000
62,000
25,000
8,000

3,00,000
Ans. (Rs. 22,000, Rs, 1,05,000 & Rs.65,000)

Financial Statements Analysis

What is Financial Statement Analysis?

Financial statement analysis is defined as the process of identifying financial strengths


and weaknesses of the firm by properly establishing relationship between the items of
the balance sheet and the profit and loss account. Financial statements are prepared to
meet external reporting obligations and also for decision making purposes.

Tools and Techniques of Financial Statement Analysis

 Ratio Analysis
 Horizontal and Vertical Analysis
Ratio analysis

What is Ratios Analysis?

The ratios analysis is the most powerful tool of financial statement analysis. It simply
means one number expressed in terms of another number. A ratio is a statistical
measurement by use of which relationship between two or various figures can be
compared or measured.

Types of Ratios discussed

 Liquidity Ratios
 Profitability Ratios

Liquidity Ratios

What is liquidity ratio?

Liquidity ratios provide information about a firm's ability to meet its short-term
financial obligations. They are more likely to affect short term creditors. Liquidity
refers to availability of cash in businesses.

Factors affecting liquidity Ratio

 The rate at which accounts receivable and inventory are converted to cash.
 Another indication of relative liquidity is the ratio of current assets to current
liabilities.
 Liquidity is another useful determinant of credit worthiness.

Types of Ratio

 Current Ratio
 Quick Asset Ratio
 Working Capital (Rs/million)

Current Ratio

What is current ratio?


Current ratio is often determined by investors to find out how much current assets are
used to pay off current liabilities.
Formula:
Current Ratio = Current Assets
Current Liabilities

Current Ratio
2004 2005 2006 2007 2008
0.88 0.75 0.87 0.92 1.01
Attock Refinery Limited:
Industry Ratios:
Current Ratio:
2004 2005 2006 2007 2008
2.06 2.24 2.15 1.66 1.69

Comparison:
According to the above graph of Attock refinery limited, we are getting to see random
increase in current ratio since 2005, in time frame 2004-2005 current ratios had fallen
down. The reason can be that in 2005 both Attock refineries current assets and current
liabilities increased side by side. This difference is shown in the above trend. Now, if
we see the industry averages graph, what does one see, from the above graph we can
evaluate that compare to industry, Attock refinery is feasible in maintaining its current
assets and make its short term investors happy. There were ups and downs in the
slope; it was due to the economic changes like recession and growth. In 2008 oil and
gas industry had current ratio of 1.69, which is a good ratio, as for a big industry like
this ratio should be around 2:1. On the other hand Attock refinery limited had a ratio
1.01 so we can say that they were totally in the safe corner as below 1, the company
might face any serious problems. Factor for the decrease in current ratio can be that
debtors have not returned money on due date or there are more liabilities occurring in
terms of less current assets.

Quick Asset Ratio

What is Quick Asset ratio?


It is a measure of company’s liquidity and ability to meet its obligations.

Formula:
Quick Asset Ratio = Quick assets
Current Liabilities

Attock Refinery Limited:

Quick Asset Ratio:


2004 2005 2006 2007 2008
0.74 0.58 0.66 0.72 0.76

Industry Ratios:
Quick Ratio:
2004 2005 2006 2007 2008
1.53 1.71 1.59 1.21 1.24
Comparison:
The graph presented under the Attock refinery portion for quick assets is showing a
stable position and is also illustrating a straight increase in quick asset ratio from
2005; there were no fluctuations then onwards. Explanation for this can be that quick
assets of ARL have increased with a same proportion or more proportion with current
liabilities due to which the company ratio keeps on increasing. The industry averages
show an increase in quick asset ratio from 2004-2005, then a fall from 1.59 to 1.21 in
2005-2006 and then another decrease in 1006-2007. After 2007, it again regained
position and increased to 1.24 from 1.21. 1.5:1 is a better ratio in terms of quick asset
ratio but we can say that it is slightly fulfilling these requirements. In 2008-2009 cash
balances and trade debtors increased which is shown in the above industry graph.
Here the change can be interpreted as a mean in which we have taken only the quick
assets into consideration and assets which take time to liquidate in terms of other
current assets.

Working Capital

Q: What is working capital?

Working capital is money available to a company for day-to-day operations. Positive


working capital generally indicates that a company is able to pay off its short-term
liabilities almost immediately.

Formula:
Working Capital = Current Asset – Current Liabilities

Attock Refinery Limited:


Working Capital (Rupees in million):
2004 2005 2006 2007 2008
89 -1124.17 -2440.47 -6,610 -4,578

Industry Ratios:
Working capital (Rs/million):
2004 2005 2006 2007 2008
2288.8 2041.8 2479.7 2416.95 3752.9

Comparison:
Attock refinery limited is having a negative working capital which means that they
owe more then what they have. Working capital is a tool in managing cash flow
accounts. If we see the graph we see a downward trend starting from 2005 and is keep
on increasing till 2008. Decrease in the level is indicated by the above bar charts. But,
if one sees the industry ratio graph we realize that overall oil and gas industry is
experience increase I working capital. They know how to manage their account. If we
analyze Attock refinery on this ratio then we can say that ARL is not in a superb
position compare to its other competitors present. The above graph of ARL can be
simply evaluated as decreasing at an increasing rate. Working capital is decreasing for
ARL as their current liabilities are greater than current assets.

Profitability Ratios

What is Profitability Ratio?

A class of financial calculations that are used to assess a business's ability to generate
earnings as compared to its expenses and other relevant costs incurred during a
specific period of time. For most of these ratios, having a higher value relative to a
competitor's ratio or the same ratio from a previous period is indicating that the
company is doing well.

Factors affecting Profitability Ratio

 Net Income
 Sales
 Gross Profit
 Capital Employed
 Shareholders equity and reserves

Types of Ratio

 Operating profit as net sales (percentage)


 Gross profit as net sales (percentage)
 Net income as net sales
 Return on capital employed (percentage)
 Return on Equity

Operating Profit as net sales

Q: What is Operating Profit as net sales?


A ratio used to measure a company's pricing strategy and operating efficiency. The
higher the margin, the better it is.

Formula:
Operating Profit as net sales = Operating Profit * 100
Net sales

Attock Refinery Limited:


Operating profit as net sales (percentage):
2004 2005 2006 2007 2008
3.45% 6.01% 2.18% 2.61% 9.08%
Industry Ratios:
Operating profit as net sales (%):
2004 2005 2006 2007 2008
15.63 14.37 10.41 9.23 12.23

Comparison:
Net sales keep on rising from 2004-2008, and operating expenses are increasing from
2004-2006 and then it fall in 2007 and then it again rise in 2008. ARL is having
fluctuations in this ratio, as seen that in 2004-2005 it is raising then in 2006 it falls in
a drastic way. And 2007-2008, it again increased. The reason can be increase in net
sales or operating profit which can be easily evaluated through the Profit and loss
account of these 5 years. Oil and Gas industry is having a fall in this ratio for 2004-
2007 and then it came to the front line in 2008 where it increased the operating profit
ratio. OGDCL is the main company whose sales and operating profit had lead to this
change in 2008.

Gross Profit as net sales

Q: What is Gross Profit as net sales?


Without an adequate gross margin, a company will be unable to pay its operating and
other expenses and build for the future. It helps in determining pricing decisions, the
higher the better.

Formula:
Gross Profit as net sales = Gross Profit
Net Sales

Attock Refinery Limited:


Gross profit as net sales (percentage):
2004 2005 2006 2007 2008
3.70% 6.10% 1% 1.50% 4.30%

Industry Ratios:
Gross profit as net sales (%):
2004 2005 2006 2007 2008
16.64 16.38 14.48 14.99 14.82

Comparison:
Net sales keep on rising from 2004-2008, and Gross profit is increasing in 2004-2005
and then it fall in 2006 and then it increase in 2007-2008. The same thing is illustrated
in the curve with 2006 having the lowest bracket under ARL chart. Industry ratio had
a similar affect and 2006 was the crucial stage. The main reason could be that
compare to 2004 and 2005 the oil and gas industry cost of production rise from
487.21 to 1183.379 Rs/million in 2006. Due to this there was an overall fall in gross
profits of many related companies.

Net Income as net sales

Q: What is Net Income as net sales?


The net margin explains that how much a company makes for every Rs1 generated
from profits. The higher the ratio compares to the competitors, better for companies.

Formula:
Net Income as net sales = Net Income
Net Sales

Attock Refinery Limited:


Net income as net sales:
2004 2005 2006 2007 2008
1.54% 2.92% 0.54% 1.26% 6.56%

Industry Ratios:
Net income as net sales (%):
2004 2005 2006 2007 2008
10.1 10.42 9.28 8.02 9.11

Comparison:
Compare to overall industry Attock refinery was not at a good position for years
2004-2007 as there were differences in changes of net income to net sales. Net
income to net sales ratio of ARL was rising but not with a greater extent compare to
the industry average ratios.2004-2007 the average ratio was around 8.5% which is not
equivalent to average company ratio in those years that was around 1.5%. In 2008
company ratio increased that means in this year their net income rise more. It has
become compatible to the industry shown, now the difference has been reduced which
is good news for ARL. They are trying to be competitive with in this industry.

Return on Capital Employed

Q: What is Return on Capital Employed?


It is a ratio that indicates the efficiency and profitability of a company's capital
investments.

Formula :
Return on Capital Employed = Net Income
Capital Employed

Attock Refinery Limited:


Return on capital employed (percentage):
2004 2005 2006 2007 2008
28.40% 56% 10.30% 23.20% 91.20%

Industry Ratios:
Return on capital employed (%):
2004 2005 2006 2007 2008
39.86 43.6 39.3 36.38 13.35

Comparison:
In terms of ARL ratio is decreasing in 2006 and it increased a little in 2007 and then
had a big increase in 2008 as illustrated in the bars in the above chart. Its explanation
can be that increase in both capital employed and net income has lead to decrease in
this ratio as more of net income with more of capital employed leads to a fall in
Return on capital employed. Industry wise in 2005 there was maximum ratio of
43.6% and lowest in 2008 of 13.35%. On the other hand ARL alone in 2008
contributed 91.2% in return on capital employed and lowest was 10.3% which was in
2006. Overall, ARL is in a successful position according to this summary.

Return on Equity

Q: What is Return on Equity?


A measure of a corporation's profitability that reveals how much profit a company
generates with the money shareholders have invested.

Formula:
Return on Equity = Net Income
Average Share holders’ Equity

Attock Refinery Limited:


Return on Equity:
2004 2005 2006 2007 2008
26.80% 42.70% 10.02% 19.82% 63.38%

Industry Ratios:
Return on equity (%):
2004 2005 2006 2007 2008
37.98 38.25 33.13 29.14 4.69

Comparison:
In 2004-2007, ARL was not in a competitive position, as shown in the above bar
charts that there was a lot of comparison and investors had less confidence in their
ratio compare to other companies due to which shareholders reserves were less
compare to industry average. In 2008 ARL gained its market position and soon leaded
it path to become next industry leader after OGDCL. In 2008, oil and gas industry
was already in shocks due to cost push inflation. This shock was for all the industries
in the secondary sector. 2008 was not a good year for investment in Pakistan.

Investor Ratios

What is Investor Ratio?

There are ratios commonly used by investors to assess the performance of a business
as an investment. It is important for shareholders who want to invest in a certain
business. It helps them to make decisions.

Factors Affecting Investor Ratios

 Net Income
 Preferred Dividends
 Average number of equity shares
 Total Assets and Total Liabilities
 Market price of shares

Type of Ratio

 Earning Per Share(EPS)


 Price earning ratio
 Debt-Equity ratio

Earning Per Share (EPS)

Q: What is Earning Per Share?


The earnings per share is a good measure of profitability and when compared with
EPS of similar companies, it gives a view of the comparative earnings or earnings
power of the firm. EPS ratio calculated for a number of years indicates whether or not
the earning power of the company has increased.

Formula:
Earning Per Share = Net income – Preferred dividends
Average number of equity shares

Attock Refinery Limited:


EPS (Rs per share):
2004 2005 2006 2007 2008
13.44 34.94 6.68 13.17 86.49

Industry Ratios:
EPS(Rs/share)
2004 2005 2006 2007 2008
29.44 17.65 16.26 28.25 5.18
Comparison:
EPS is moving like a cycle going up and down. It is giving a similar image as of a
business cycle where there are turns and twists. In 2004-2005 ARL Earning per share
increased and then in 2006 it fell and then in 2007 onwards it started to increase as
shown in the above chart. On the other hand industry averages were falling in 2004-
2005 and then took an up path in 2007 and then took a step downwards turn in 2008.
The reason given for this fall in trend is that in 2008, stock market fell from large
points and there was a decrease in investment in businesses which affected oil and gas
industry as well. There is a controversial part in 2008 EPS as if share market
collapsed how ARL achieved this increase. It is confusing but we can explain it under
net income concept where net income was the maximum in that year compare to other
years.

Price Earning Ratio

Q: What is Price earning ratio?


The most important measure of how expensive the stock is. It is the ratio of the
market price of a common stock to its earnings per share.

Formula:
Price Earning Ratio = Current Market Price
EPS
Attock Refinery limited:
Price Earning ratio:
2004 2005 2006 2007 2008
6.81 4.84 16.48 12.31 1.63

Industry ratio:
Price earning ratio (Times)
2004 2005 2006 2007 2008
4.31 11.018 15.03 9.742 9.284

Comparison:
According to the above graphs, it is being shown that in 2006, market was in a better
position as both the industry and company had a higher price earnings ratio compare
to earning per share. When their shares are compared in market, their worth can be
evaluated in terms of this ratio. It is a very important ratio for shareholders who want
to invest in this company. The component due which this whole fluctuation is done is
EPS and market price of shares.

Debt Ratio

Q: What is Debt Ratio?


The debt ratio compares company’s total assets with total liabilities, which is used to
evaluate how much leverage should be given to the company. The percentage of debt
ratio should be lower to gain stronger equity position.

Formula:
Debt Ratio = Total Liabilities *100
Total Assets

Attock Refinery Limited:


2004 2005 2006 2007 2008
87.83 85.159 89.587 88.261 80.633

Industry ratio:
Debt ratio (%):
2004 2005 2006 2007 2008
65.4 78.97 63.5 66.2 67.7

Comparison:
It is a very important ratio for investor’s as well especially financial institutions that
provide loans to the company/ businesses. The median ratio which is expectable is
around 50% not more than that. Equity ratio being greater than 50% means that
business is highly geared so no more loans should be given to this company. Compare
to industry, ARL had the highest debt ratio in 2006 which is not at all good. This is
very dangerous for business where there are many competitors. As if you are being
slow, others will get chance. The maximum debt ratio according to industry averages
till now is 78.97% which was achieving in 2005 and then afterwards it decline in 2006
and then onwards it started to increase but with a less percentile.

Horizontal and Vertical Analysis

What is Horizontal Analysis?

Comparison of two or more year's financial data is known as horizontal analysis, or


trend analysis.

What is Vertical Analysis?

Vertical analysis is the procedure of preparing and presenting common size


statements. Common size statement is one that shows the items appearing on it in
percentage form as well as in dollar form.

Trend Analysis

What is Trend Analysis?


An aspect of financial analysis that tries to predict the future movement of a
component based on past data. Trend analysis is based on the idea that what has
happened in the past gives stakeholders an idea of what will happen in the future.
Formula for Trend Analysis: Current Year-Base Year *100
Base Year
We can refer to trend analysis as horizontal analysis where we take one base year and
see changes accordingly. We have made horizontal analysis of Attock refinery limited
from 5 years starting from 2004-2008. 2004 is the base year thus is 100 and we have
seen both the analysis of balance sheet and profit and loss taking into consideration
this base year.
There are three financial statements but for trend analysis we have selected main two
which are balance sheet and Profit and loss account. The whole calculation shown in
the appendix is self explanatory but still we will try to explain the main key parts in
this analysis.

Analysis:
If we see the summary in the given appendix in the last of this report we can clearly
get a rough picture that which level of success they achieve after 2004 and in different
years how they were different from 2004. We have taken 2004 as the standard
through which we are judging our overall company. We will analyse it on yearly basis
like comparing 2008 with 2004 and so forth.
Attock refinery limited is a successful oil and gas industry of Pakistan. Through the
above data we can evaluate that where the company is lying within its own targets.
Balance Sheet is the summary of your financial position and it is made on the
equation:
Assets= Liabilities + Owners Equity
We can check trend of each and every component of balance sheet but here we are
taking the main components and making our answer according to that.
Property, plant and equipment: It is one of the kind of non-current asset which take
duration of more than 1 year to transform itself. Property, plant and equipment show
company’s financial position. Since 2004, this was the trend.
Property, plant and equipment
2004 2005 2006 2007 2008
100 -4.82 -3.3 -8.5 -1.3

From the above graph we have analyze that property, plant and equipment worth is
deteriorating and in 2007, it’s the highest rate at which it fell. The reason can be
depreciation; it leads to decrease in the value of this fixed asset.
Equity and Reserves:
Equity and Reserves:
2004 2005 2006 2007 2008
100 68.27 11.14 24.72 156.68

Attock Refinery limited is having an increase from 2006 to 2008 and the trend shows
that equity and reserves are increasing since 2006 and in 2005 the change was 68.27
less than 2004, which we take as a static figure of 100. In 2008, despite of the
recession ARL equity and reserves shares increase in 2008 with trend towards
increase of 256.68% which is a high percentage.
Long term investments
Long Term investments and funds are investments a company intends to hold for
more than one year. They can consist of stocks and bonds of other companies, real
estate, and cash that has been set aside for a specific purpose or project. In addition to
investments a company plans to hold for an extended period of time, Long Term
Investments also consist of the stock in a company's affiliates and subsidiaries.
2004 2005 2006 2007 2008
100 25,943.07 257.95 7.4 41.83

We can see from the graph that there in a huge increase in investment during 2005 as
Attock refinery is a profitable company it invested in different project in expectation
of positive future cash inflow. Investment decreased substantially during next few
years as we can see figures in the balance sheet that cash increased during these years.
Company is keeping cash in hand instead of investing it in long term projects,
indicating the company’s reduced interest in initiating new projects in face of risky
crude oil market and the slowdown of the economy.

Current liabilities
Current liabilities are the debts a company owes which must be paid within one year.
They are the opposite of current assets. Current liabilities includes things such as short
term loans, accounts payable, dividends and interest payable, bonds payable,
consumer deposits, and reserves for Federal taxes.

2004 2005 2006 2007 2008


100 57 137 202 304

The payables increased rapidly over the last few years, as we see in graph the current
liabilities are constantly increasing. It is making a significant contribution to the
observed trend. This increase in trade payables may be traced back to rising crude oil
prices over the years.
Trade debts have increased considerably between the two periods, from Rs 9.207
billion in year 2008 to Rs 15.508 billion in year 2009.

Profit and loss account

It is one of a financial statements in accounting which shows how much is a


company’s net earnings and shows the overall summary of net sales and Expenses.
The analysis and calculation given in the appendix makes the discussion much easier.
The main components here are:
Net sales
The amount a company receives from the sale of its products, after deducting
discounts, returns of products by customers, and damaged, missing, or stolen
products. It provides the most accurate calculation of what a company has received or
expects to receive in revenue from sales. Any financial statement indicating "sales"
refers to net sales.
2004 2005 2006 2007 2008
100 64.245 120.6 133.99 268.53

The sales performance of ARL displays a consistent upward trend from year2004 to
year2008, recording a phenomenal increase in sales in 2008. Cost of Sales has varied
correspondingly to almost near levels as of the sales. The refinery product prices in
Pakistan are linked to the prices in the Gulf region. The Arab Light crude oil prices
increased by 44.3% to an average US $83.34 per barrel in 2008 as compared to US
$57.77 per barrel during 2007. This increase in oil prices have helped in improving
the sales revenue and profits of the refinery sector.

Gross profit
Gross profit is the total revenue subtracted by the cost of generating that revenue, or
cost of goods sold. Gross profit is used to calculate gross margin
Gross profit=sales - cost of sales
Given that it excludes many costs, including all overheads and all financing costs, it is
not a good measure of how profitable a company is as a whole, but rather of how
much of a mark up it can make on sales.
2004 2005 2006 2007 2008
100 173.6378 -38.6335 -8.33298 330.2201

Gross profit decreased during 2005 and 2006, turned negative. The fluctuating crude
oil and petroleum products prices were the major factors behind these results. The
ART registered a substantial rise in the gross profit during 2008 as compared to in
2007 because the increase in product prices was higher than the increase in the crude
prices. While the inflated crude oil resulted in huge profits in 2008, the same reason
deteriorated revenue in 2009. The economic recession of 2008 brought with it
plummeting oil prices, with the Arabian light hitting a record all-time low of US $40
per BBL in November 2008. Asymmetric prices of company s product went
drastically down as a result and eroded the profitability.

Cost of sales
The cost of sales involves the identification of the expenses that are related to the
manufacturing process. In particular, the cost of sales addresses the expense
associated with purchasing raw materials that are necessary to produce the products
sold by the company. Sometimes referred to as the cost of goods sold or COGS, the
cost of sales is often utilized as a means of determining the overall cost of creating the
finished products that generate revenue for the company

2004 2005 2006 2007 2008


100 60.08424 126.6672 139.4087 266.1856

From the graph we can see that cost of sales is continuously increasing from year
2005 to 2008.Cost of Sales has varied correspondingly to almost near levels as of the
sales. It is due to inflation which is affecting cost of sales. As inflation rate in
increasing every year it is now expensive to purchase goods or manufacture them as
raw materials are expensive.

Net profit
The final representation of how much money a company has earned from doing
business over the course of a year, shown on the company's income statement. It takes
all the money a company has received from operating and subtracts all expenses,
including operating expenses, financing costs, and taxes. Net profit is calculated as
total revenue minus total expenses.
2004 2005 2006 2007 2008
100 211.9196 -22.5151 91.08583 1468.469

The net profit has improved considerably after falling considerably in 2006. ARL
observed cascading net profit for the 2006 in tandem with the declining profitability
in the sector to the extent that profit from Refinery operations turned negative during
the first half of 2007. The fluctuating crude oil and petroleum products prices were
the major factors behind these results. However things started improving in the third
quarter of 2007 as product prices increased more than crude oil prices, allowing the
company to earn a net profit of Rs 504.33 million for the year and giving a much
needed boost to the gross refine’ s margin and net profit margin. Sluggish demand for
motor gasoline (PMG) due to high prices and unfavorable government policies also
contributed to declining profits in 2006

Vertical analysis

It is a method of financial statement analysis in which each entry for each of the three
major categories of accounts (assets, liabilities and equities) in a balance sheet is
represented as a proportion of the total account. Vertical analysis of an income
statement results in every income statement amount being presented as a percentage
of sales. The main advantage of vertical analysis is that the balance sheets of
businesses of all sizes can easily be compared. It also makes it easy to see relative
annual changes within one business. We have shown the vertical analysis in the
appendix.

Vertical analysis of balance sheet

The vertical analysis of the balance sheet means every amount on the balance sheet is
restated to be a percentage of total assets. If inventory is $100,000 and total assets are
$400,000 then inventory is presented as 25 ($100,000 divided by $400,000). If cash is
$8,000 then it will be presented as 2 ($8,000 divided by $400,000). The total of the
assets will now add up to 100. If the accounts payable are $88,000 they will be
presented as 22 ($88,000 divided by $400,000). If owner’s equity is $240,000 it will
be presented as 60 ($240,000 divided by $400,000). The restated amounts from the
vertical analysis of the balance sheet will be presented as a common-size balance
sheet. A common-size balance sheet allows us to compare our company’s balance
sheet to another company’s balance sheet or to the average for its industry.

Equity and reserves


2004 2005 2006 2007 2008
13.11 14.84 10.41 11.74 19.37

We can see that there is an increase in equity and reserves through 2004 to 2008,
except 2006 in which it decreases. Over all equity and reserve as percentage of total
asset is a small portion of total asset. Which means most of the asset is financed by
liabilities. It will be credit risk for new investors to invest in this company.

Current liabilities
A company's debts or obligations that are due within one year. Current liabilities
appear on the company's balance sheet and include short term debt, accounts payable,
accrued liabilities and other debts.

2004 2005 2006 2007 2008


70.6 74.33 71 82.02 76.6

The current liabilities are a huge portion of the total asset, while cash on hand is less
in percentage than current liabilities, which make illiquid. The liquidity position of
ARL had been declining over the period since 2004. The current ratio of the company
reached dangerously low levels so that the current assets were no longer sufficient to
cover the current liabilities. The trade payables increased rapidly over the last few
years, thus making a significant contribution to the observed trend. This increase in
current liabilities may be traced back to rising crude oil prices over the years.
Cash and bank balances
2004 2005 2006 2007 2008
26.78 29.84 27.6 27.59 37.83

Cash and bank balance increases during 2005 but decreases during 2006 then in 2007
it increases but at a decreasing rate. While in 2008 there is a significant increase in
cash as a percentage of total assets. But if we see the percentage of current liabilities
is greater than percentage of cash and bank balance, which means that there isn’t
enough cash in hand for the company to pay its debts. A company which cannot pay
its debts, investors will not tend to invest in that company
Property, plant and equipment
These are referred to as fixed assets. In other words, these are the corporation's real
estate, buildings, office furniture, telephones, cafeteria trays, brooms, factories, etc.
They are the physical assets the company owns but can't quickly convert to cash.
2004 2005 2006 2007 2008
28.53 18.26 11.15 9.22 5.85
Property plant and equipment is continuously decreasing through 2004 to 2008. This
decrease is due to depreciation, which decreases the book value. ARL uses straight
line depreciation, which reduces the value of asset over time

Vertical analysis of an income statement

Vertical analysis of an income statement results in every income statement amount


being presented as a percentage of sales. If sales were $1,000,000 they would be
restated to be 100 ($1,000,000 divided by $1,000,000). If the cost of goods sold is
$780,000 it will be presented as 78 ($780,000 divided by sales of $1,000,000). If
interest expense is $50,000 it will be presented as 5 ($50,000 divided by $1,000,000).
The restated amounts are known as a common-size income statement. A common-size
income statement allows us to compare our company’s income statement to another
company’s or to the industry average.
Cost of sales

2004 2005 2006 2007 2008


96.33 93.89 98.98 98.56 95.72

Cost of sales reduces during 2005 but shoots up during 2006; the fluctuating crude oil
and petroleum products prices were the major factors behind these results. But then
decreases during 2007 and 2008. The cost of sale is a huge percentage if net sales
which is not a good thing; it reduces the revenue as major portion of sales is used to
pay cost of goods.

Gross profit

2004 2005 2006 2007 2008


3.67 6.11 1.02 1.44 4.28

As cost of sales decreases during 2005 it directly affects gross profit, so gross profit
increases during 2005. Basically gross profit graph is opposite of cost of sales graph.
When cost increases gross profit decreases and vice versa. It’s clear that when cost of
sales is high it will reduces the profit margins. Simply the company is not profitable
when its profit margin is less.

Net profit

2004 2005 2006 2007 2008


1.54 2.93 0.54 1.26 6.56

Net profit increases in 2005 but then decreases during 2006 and increases in 2007.
There is considerable increase in net profit during 2008. This shows that company is
improving its performance.

CONCLUSION
This report of ours will give the reader a full detail of financial analysis of Attock
Refinery Limited of Pakistan. This report will leave an analytical impact on the mind
of the readers due to its critical analysis.
In our report we have taken liquidity ratio, profitability ratio and investor ratios of the
company and have compared it with the industry averages. By comparing the
company and industry averages we came to know about the position of ARL in the
Oil and Gas Industry. For Example by calculating the Quick asset ratio, we saw that
quick assets of ARL have increased with a same proportion or more proportion with
current liabilities due to which the company ratio keeps on increasing. Similarly in
order to know about the company’s pricing strategy and operating efficiency we
calculated the Operating Profit as net sales of the company and the industry as well;
for proper comparison of the company. We also came to know through this ratio that
ARL is having fluctuations; as seen that in 2004-2005 it is raising then in 2006 it falls
in a drastic way. In the same way EPS is moving like a cycle going up and down. It is
giving a similar image as of a business cycle where there are turns and twists.
In Oil and Gas industry PARCO is the market leader of the refinery sector whose
changing affects all the companies within the industry. Or we can say that it is leading
the change in the industry. Another interesting aspect of financial analysis is
predicting the future movement on past data. This aspect is called trend analysis that
gives the stakeholders an idea of what will happen in the future.
In our report we have taken two types of trend analysis: Horizontal and Vertical.
Attock refinery limited is a successful oil and gas industry of Pakistan. Through the
horizontal and vertical analysis we can evaluate that where the company is lying
within its own targets and it also makes it easy to see relative annual changes within
one business.
The year under review witnessed fluctuating international prices of crude oil and
petroleum products, which could not stabilize due to world recession in the past year.
Unless these prices stabilize the refineries shall continue to carry the risk of
unpredictable refiners margins with the additional risk of exchange rate fluctuations
that too had considerable effect on the profitability of the refineries.
Having researched thoroughly and completely it can hence be concluded that ARL is
overall a profitable company but still it has to make its place because there are many
companies in the market. They should try to achieve the position that OGDCL is
enjoying.
There are also certain limitations which we encountered while we were doing this
project, there are certain ratios which are incomplete or not given importance in a
proper way. We cannot rely on this analysis as we do not know whatever ARL has
mentioned in its report is it true maybe they did any window dressing so results can
contradict by one and another.
Appendix

Trend or Horizontal Analysis

Balance Sheet:
2008 2007
Rs(million) % Rs(mil) %
Equity and Reserves 9,698.99 156.68 3,778.66 24.72
Surplus on revaluation of freehold land 1,923.34 0 1,923.34 0
non-current liabilities 96.89 12.92 85.8 -97.54
Total current liabilities 38,361.96 45.31 26,400.15 27.8
50,081.18 55.59 32,187.95 10.63
Property,plant and equipment 2,929.65 -1.3 2,968.13 -8.5
Long term investments 13,135.58 41.83 9,261.34 7.4
Non-current assets 232.03 37.53 168.71 12.91
Stores,spares and loose tools 542.5 -14 630.84 7.65
stock in trade 4,844.85 25.75 3,852.65 9.33
Trade debts 9,207.24 47.67 6,234.92 33.36
Loans,advances,deposits,prepayments 244.7 27.94 191.26 -27.41
and other receivables
Cash and bank balances 18,944.63 113.34 8,880.11 10.56
50,081.18 55.59 32,187.95 10.63

2006 2005
Rs(million) % Rs(million) %
Equity and Reserves 3,029.68 11.14 2,725.97 68.27
Surplus on revaluation of freehold land 1,923.34 0 1,923.34 0
non-current liabilities 3,486.05 5,270.19 64.91 -26.68
Total current liabilities 20,657.22 51.29 13,653.61 56.54
29,096.29 58.41 18,367.84 48.68
Property,plant and equipment 3,243.95 -3.3 3,354.72 -4.82
Long term investments 8,622.91 257.95 2,408.98 25,943.07
Non-current assets 149.42 42.73 104.69 52.12
Stores,spares and loose tools 585.99 8.43 540.41 21.19
stock in trade 3,523.81 67.75 2,100.62 20.82
Trade debts 4,675.13 11.64 4,187.57 31.35
Loans,advances,deposits,prepayments 263.47 38.49 190.25 170.79
and other receivables
Cash and bank balances 8,031.59 46.55 5,480.58 65.64
29,096.29 58.41 18,367.84 48.68

2004
Rs(million) %
Equity and Reserves 1,620.02 100
Surplus on revaluation of freehold land 1,923.34 100
non-current liabilities 88.54 100
Total current liabilities 8,722.34 100
12,354.24 100
Property,plant and equipment 3,524.64 100
Long term investments 9.25 100
Non-current assets 68.82 100
Stores,spares and loose tools 445.9 100
stock in trade 1,738.63 100
Trade debts 3,188.01 100
Loans,advances,deposits,prepayments 70.26 100
and other receivables
Cash and bank balances 3,308.72 100
12,354.24 100