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Portfolio Activity 7 - Financial Ratios

Managerial Accounting (University of the People)

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Portfolio Activity 7: Financial Ratios

Harenton Cashier Chea

BUS 5110 Managerial Accounting

University of the People

Jacent Gayle

August 6, 2020

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Running Head: Portfolio Activity 7: Financial Ratios

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Introduction

The aim of reviewing financial reports for not-for-profit organizations is to assess the

organization's health and to check that funds are being used as intended. Numbers taken on their

own do not tell us very much (Heisinger & Hoyle (n.d.). We need something to measure them

against – such as comparing them to similar organizations, standard measures or targets, or

previous years’ accounts.

When we interpret the Balance Sheet and Income & Expenditure statement, we use two types of

financial analysis:

 Trend analysis, which asks: how are we doing compared with the last period?

 Ratio analysis which provides a means of interpreting and comparing financial results.

Theoretical Framework

Trend analysis

Trend analysis considers figures compiled using the same accounting treatment and

showing information for different consecutive periods, usually year on year. The comparison of

the figures, may make it possible to detect trends and use the information to predict future

trends or set targets.

Trend analysis is mostly meaningful if also combined with financial ratio analysis.

Financial ratio analysis

Financial ratio analysis is used in business to assess the profitability and efficiency of

companies. Ratio analysis for not-for-profit sector is less common but very useful for many

reasons. It allows comparison of reports expressed in different currencies and between

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Running Head: Portfolio Activity 7: Financial Ratios

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organizations of different scale by converting them into a similar measure. Donor agencies often

use ratios when assessing performance, especially to compare relative costs – such as central

administration – between similar organizations or projects.

The importance of ratios is in the clues they may provide to what is going on, not absolute

measures of good or bad performance. Ratio analysis helps Board members and managers

answer three essential questions:

 Financial sustainability – will our organization have the money it needs to continue

serving people tomorrow as well as today?

 Efficiency – does our organization serve as many people as possible with its resources

for the lowest possible cost?

 Effectiveness – is our organization doing a responsible job of managing its money?

Analyzes of the Income and Expenditure statement

Considering the income statement for Samaritan Purse, ratio analysis will involve

converting each line item into a percentage of total income. This calculation will indicate the

level of donor dependency – by dividing the total of donor grants by total income and

multiplying by 100. If the financing strategy leads us towards less dependence on external aid,

the dependency ratio will help set and monitor our target level.

A further level of analysis can be obtained by comparing the ratios for the current and previous

years’ figures to detect trends.

Analyses the Balance Sheet

Again, try dividing everything by the total income figure shown on the accompanying Income

& Expenditure statement to indicate the relative importance of items on the Balance Sheet.

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Running Head: Portfolio Activity 7: Financial Ratios

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The Survival Ratio can be calculated by dividing general reserves, sometimes called

'free reserves' (that is the part of the Accumulated Funds which are unrestricted, not held as

capital and for general use) by total income (from the accompanying Income & Expenditure

statement). This will give an indication, in days, of how long the organization could survive in

the coming year if income dried up and levels of activity remain the same.

For not-for-profit organizations, many ratios such as Inventory Turnover Ratio, Average

Sales Period are not applicable. Services businesses and manufacturing companies will use

similar ratios except ratios considering inventory. For not-for-profit organizations, we use

different types of ratios that do not apply to manufacturing and service businesses such as the

Donor Dependency ratio, Income Utilization ratio, and Survival Ratio (MANGO 2017).

Conclusion

Ratios by themselves provide no information; they indicate by exceptions where further

study may improve the business performance. Management can compare performance of

current with previous periods and competing companies (Weetman 2010). While manufacturing

companies and service companies might use financial ratios for different purposes, all analyses

aim to profitability, liquidity, leverage (capital structure), and activity or management

effectiveness (efficiency).

References

Heisinger, K., & Hoyle, J. B. (n.d.). Accounting for Managers.

https://2012books.lardbucket.org/books/accounting-for-managers/index.html

MANGO (2017), Financial Management for NGOs, Taking Fear out of Finance

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Running Head: Portfolio Activity 7: Financial Ratios

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Samaritan Purse Canada (2019), Consolidate Financial Statement, (accessed August 6, 2020)

https://www.samaritanspurse.ca/wp-content/uploads/The-Samaritans-Purse-Canada-
Dec-2019-final-signed.pdf

Weetman P. (2010), Management Accounting, Pearson Education Limited 2006, 2010, Second
Edition,

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