FINANCIAL STATEMENT

&
RATIO ANALYSIS
 LIQUIDITY RATIOS
 An important class of financial metrics
 To determine a debtor's ability to pay off current debt
obligations without raising external capital.
 Determine a company's ability to cover short-term
obligations and cash flows

Common liquidity ratios include the Current ratio,

Quick ratio and Cash Position Ratio.
 CURRENT RATIO
 The current ratio is the ratio between the current assets
and current liabilities of a company.
 Used to indicate the liquidity of an organization
 Ability to meet its debt obligations in the upcoming
twelve months.
 A higher current ratio will indicate that the organization is
highly capable of repaying its short-term debt obligations.
 CURRENT RATIO
 Looks at the ratio between Current Assets and Current
Liabilities
 Current Ratio = Current Assets : Current Liabilities

Current assets
Current Ratio =
Current liabilities

 Ideal level = 1.5 : 1

 A ratio of 5 : 1 = Too high – Might suggest that too much of
its assets are tied up in unproductive activities.
 A ratio of 0.75 : 1 = Too low - risk of not being able to pay
your way
 CURRENT RATIO
Cash in hand,
Cash at bank,
Sundry Debtors,
CURRENT ASSETS Bills Receivables,
Closing Stock,
Prepaid Expenses,
Short term Investments.

Sundry Creditors,
CURRENT Bills Payables,
LIABILITIES Bank Overdraft,
Outstanding Expenses
 QUICK RATIO / ACID TEST RATIO

The quick ratio measures a company's ability

to meet its short-term obligations with its most
liquid assets and therefore excludes inventories
from its current assets. It is also known as "acid-
test ratio”
 ACID TEST RATIO

 Also referred to as the ‘Quick ratio’

Liquid assets
Quick Ratio =
Current liabilities

 Ideal level = 1:1

 Higher ratio indicates sound financial position.

 Lower ratio indicates financial difficulty

Liquid assets Current assets – (Stock + Prepaid expenses)

 LEVERAGE RATIOS
 indicates the level of debt incurred by a business
entity.
 These ratios provide an indication of how the
company’s assets and business operations are financed
(using debt or equity).
 There are different leverage ratios such as

Debt to Equity  = Total debt / Shareholders Equity

Debt to Capital  = Total debt / Capital EmployedDebt to
Assets = Total debt / Assets

Common leverage ratios includes Proprietary ratio,

Debt-Equity ratio and Interest Coverage ratio.
 PROPRIETARY RATIO
 Looks at the ratio between Proprietor’s funds and Total Assets;
 Shows general strength of the company

Proprietor’s funds
Proprietary Ratio =
Total Assets

Equity share Capital

Preference share capital
PROPRIETOR’S
General Reserve
FUND
Profit& Loss Account
(Reserves and Surplus)
 Ideal level = 1 : 3
 DEBT-EQUITY RATIO
 Relationship between owner’s equity and borrowed funds;
 Shows long-term solvency of the firm

Long term Debts

Debt-equity Ratio =
Proprietor’s Fund

Bank Loan
Long term Debt Debentures
Long term Loans

 Ideal level = 1 : 3
 PROFITABILITY RATIOS
 Profitability refers to the financial performance of the business.
 Accounting Ratios that measure profitability are known as
Profitability Ratios.
 We express these ratios in ‘Percentage’. Higher ratio results
are often more favorable,
 Provide much more information when compared to results of
similar companies or the industry average.
Types of Profitability Ratio
 Gross Profit Ratio

 Operating Ratio

 Operating Profit Ratio

 Net Profit Ratio

 Return on Investment
 GROSS PROFIT RATIO
 Gross Profit Ratio establishes the relationship between gross
profit and Net Sales of an enterprise.

 This ratio looks at how well a company controls the cost of its
inventory and the manufacturing of its products.

 The larger the gross profit margin, the better for the company.

Gross Profit = Sales – Cost of Goods sold

(Cost of Goods Sold
= Opening Stock + Purchases – Closing Stock)
 NET PROFIT RATIO
 Net profit margin is the most often margin ratio used.
 Shows how much of each sales remains as net
income after all expenses are paid.
 The net profit margin measures profitability after
consideration of all expenses including taxes, interest,
and depreciation.
 OPERATING PROFIT RATIO
 Operating Profit Ratio measures the relationship between
Operating Profit and Net Sales.
 Express in Percentage.

Operating Profit 
= Gross Profit + Other Operating Income – Other
Operating Expenses
(OR)
= Net Profit (Before Tax) + Non-operating Expenses –
Non-operating Incomes
 OPERATING RATIO
 It establishes the relationship between operating costs
and Revenue from Operations.
 Otherwise called as Expenses Ratio.

Operating Ratio = Operating Expenses x 100

Sales
 Operating Expenses = Office Expenses + Selling and
Distribution Expenses + Depreciation.
 Operating Profit Ratio and Operating Ratio are
complementary.
Operating Ratio + Operating Profit Ratio = 100
 ACTIVITY RATIOS
 Activity ratios play an active role in evaluating the
operating efficiency of the business;
 Activity
ratios measure the efficiency of a business in
using and managing its resources to generate
maximum possible revenue;
 It shows the connection between sales and a given
asset;
 It shows the speed at which the assets are converted
into sales.
TYPES OF ACTIVITY RATIOS

 Total Assets Turnover Ratio

 Fixed Assets Turnover Ratio
 Working Capital Turnover Ratio
 Stock Turnover ratio
 Debtor Turnover ratio
 Creditors Turnover ratio
 TOTAL ASSETS TURNOVER RATIO
 This ratio measures the efficiency of the firm in
utilizing its Assets.
 A high ratio represents efficient utilization of total
Assets in generating sales.
 Formula :

(Sales or Cost of Goods Sold) / Total Assets

 FIXED ASSETS TURNOVER RATIO
 This ratio measures the efficiency of the firm in
utilizing its Fixed Assets. A high ratio represents
efficient utilization of Fixed Assets in generating
sales.
 Formula:

(Sales or Cost of Goods Sold)/ Fixed Assets

 WORKING CAPITAL TURNOVER RATIO
 This ratio measures the efficiency of the firm in
utilizing its Working Capital.
 A high ratio represents efficient utilization of
working Capital in generating sales.
 Formula:

(Sales or Cost of Goods Sold)/ Working Capital

 STOCK TURNOVER RATIO
 This ratio describes the relationship between the cost of
goods sold and Stock.
 This ratio indicates how fast inventory/ Stock is
consumed/ sold.
 A high ratio is good for the company.

 Low ratio indicated that stock is not consumed/ sold for

a longer period of time.
 Formula:

Cost of Goods Sold/Average Stock

Average Inventory =
(Opening Stock + Closing Stock) / 2
 DEBTORS TURNOVER RATIO
 This ratio helps the company to know the collection
and credit policies of the firm.
 It measures how efficiently the management is
managing its accounts receivable.
 A high ratio represents better credit policy.

 Formula:

Credit Sales/Average Accounts Receivables

Average Accounts Receivable =
(Opening Debtors and B/R + Closing Debtors and B/R) / 2
 CREDITORS TURNOVER RATIO
 This ratio helps the company to know the payment
policy.
 It also reflects how management is managing its
account payable.
 A high ratio represents that in the ability of
management to finance its credit purchase and vice
versa.
 Formula:

Credit Purchases / Average Accounts Payables

Average Accounts Payable =

(Opening Creditors and B/P + Closing Creditors and B/P) / 2
SUM: 01
SOLUTION
SUM: 02
SOLUTION
CONTD…