6 - 6 - 1 1

6 - 6 - 1 1
Financial Statements Analysis
Financial Statements Analysis
6 - 6 - 2 2
6 - 6 - 2 2
FINANCIAL STATEMENTS
ANALYSIS
Ratio Analysis
Importance and Limitations o
Ratio Analysis
Common Si!e Statements
Mini Case
6 - 6 - " "
6 - 6 - " "
Ratio Analysis
Ratio Analysis
Ratio analysis is a #idely $sed tool o inancial
analysis% It is deined as t&e systematic $se o
ratio to interpret t&e inancial statements so
t&at t&e stren't&s and #ea(nesses o a irm as
#ell as its &istorical perormance and c$rrent
inancial condition can )e determined%
6 - 6 - * *
6 - 6 - * *
+asis o Comparison
+asis o Comparison
1, Trend Analysis in-ol-es comparison o a irm o-er a
period o time. t&at is. present ratios are compared #it&
past ratios or t&e same irm% It indicates t&e direction o
c&an'e in t&e perormance / impro-ement. deterioration
or constancy / o-er t&e years%
2, Interirm Comparison in-ol-es comparin' t&e ratios o a
irm #it& t&ose o ot&ers in t&e same lines o )$siness or
or t&e ind$stry as a #&ole% It relects t&e irm0s
perormance in relation to its competitors%
", Comparison #it& standards or ind$stry a-era'e%
6 - 6 - 1 1
6 - 6 - 1 1
Types o Ratios
Types o Ratios

Li2$idity Ratios

Capital Str$ct$re Ratios

3roita)ility Ratios

Eiciency ratios

Inte'rated Analysis Ratios

4ro#t& Ratios
6 - 6 - 6 6
6 - 6 - 6 6
Net #or(in' capital is a meas$re o li2$idity calc$lated )y
s$)tractin' c$rrent lia)ilities rom c$rrent assets%
Ta)le 15 Net 6or(in' Capital
3artic$lars Company A Company +
Total c$rrent assets
Total c$rrent lia)ilities
N6C
Rs 1.78.888
1.28.888
68.888
Rs "8.888
18.888
28.888
Ta)le 25 C&an'e in Net 6or(in' Capital
3artic$lars Company A Company +
C$rrent assets
C$rrent lia)ilities
N6C
Rs 1.88.888
21.888
91.888
Rs 2.88.888
1.88.888
1.88.888
Net 6or(in' Capital
Net 6or(in' Capital
6 - 6 - 9 9
6 - 6 - 9 9
Li2$idity Ratios
Li2$idity Ratios
Li2$idity ratios meas$re t&e a)ility o a irm to
meet its s&ort-term o)li'ations%
6 - 6 - 7 7
6 - 6 - 7 7
3artic$lars Firm A Firm +
C$rrent Assets Rs 1.78.888 Rs "8.888
C$rrent Lia)ilities Rs 1.28.888 Rs 18.888
C$rrent Ratio : "52 ;1%151, "51
C$rrent Ratio
C$rrent Ratio :
C$rrent Assets
C$rrent Lia)ilities
C$rrent Ratio is a meas$re o li2$idity calc$lated di-idin' t&e c$rrent
assets )y t&e c$rrent lia)ilities
6 - 6 - < <
6 - 6 - < <
=$ic( Assets : C$rrent assets / Stoc( /
3re-paid e>penses
Acid-Test Ratio
Acid-Test Ratio
Acid-test Ratio :
=$ic( Assets
C$rrent Lia)ilities
T&e 2$ic( or acid test ratio ta(es into consideration t&e
dierences in t&e li2$idity o t&e components o c$rrent
assets%
6 - 6 - 18 18
6 - 6 - 18 18
E>ample 15
E>ample 15
Acid-Test Ratio
Acid-Test Ratio
Cas&
?e)tors
In-entory
Total c$rrent assets
Total c$rrent lia)ilities
Rs 2.888
2.888
12.888
16.888
7.888
;1, C$rrent Ratio
;2, Acid-test Ratio
2 5 1
8%1 5 1
6 - 6 - 11 11
6 - 6 - 11 11
S$pplementary Ratios or
S$pplementary Ratios or
Li2$idity
Li2$idity

In-entory T$rno-er Ratio

?e)tors T$rno-er Ratio

Creditors T$rno-er Ratio

6 - 6 - 12 12
6 - 6 - 12 12
In-entory T$rno-er Ratio
T&e cost o 'oods sold means sales min$s 'ross proit%
T&e a-era'e in-entory reers to t&e simple a-era'e o t&e openin'
and closin' in-entory%
In-entory t$rno-er ratio :
Cost o 'oods sold
A-era'e in-entory
T&e ratio indicates &o# ast in-entory is sold% A &i'& ratio is 'ood rom
t&e -ie#point o li2$idity and vice versa% A lo# ratio
#o$ld si'niy t&at in-entory does not sell ast and stays on t&e s&el or in
t&e #are&o$se or a lon' time%
6 - 6 - 1" 1"
6 - 6 - 1" 1"
E>ample 25
E>ample 25 In-entory T$rno-er Ratio

In-entory
t$rno-er ratio
:
;Rs ".88.888 / Rs 68.888,
:
6 ;times per
year,
;Rs "1.888 @ Rs *1.888, A 2
In-entory
&oldin' period
:
12 mont&s
: 2 mont&s
In-entory t$rno-er ratio. ;6,
A irm &as sold 'oods #ort& Rs ".88.888 #it& a 'ross proit
mar'in o 28 per cent% T&e stoc( at t&e )e'innin' and t&e end o
t&e year #as Rs "1.888 and Rs *1.888 respecti-ely% 6&at is t&e
in-entory t$rno-er ratioB
6 - 6 - 1* 1*
6 - 6 - 1* 1*
?e)tors T$rno-er Ratio
Net credit sales consist o 'ross credit sales min$s ret$rns. i any.
rom c$stomers%
A-era'e de)tors is t&e simple a-era'e o de)tors ;incl$din'
)ills recei-a)le, at t&e )e'innin' and at t&e end o year%
?e)tors t$rno-er ratio :
Net credit sales
A-era'e de)tors
T&e ratio meas$res &o# rapidly recei-a)les are collected% A &i'&
ratio is indicati-e o s&orter time-la' )et#een credit sales and
cas& collection% A lo# ratio s&o#s t&at de)ts are not )ein'
collected rapidly%
6 - 6 - 11 11
6 - 6 - 11 11
E>ample "5 ?e)tors T$rno-er Ratio
?e)tors
t$rno-er ratio
:
Rs 2.*8.888
:
7 ;times per
year,
;Rs 29.188 @ Rs "2.188, A 2
?e)tors
collection period
:
12 Mont&s
:
1%1
Mont&s
?e)tors t$rno-er ratio. ;7,
A irm &as made credit sales o Rs 2.*8.888 d$rin' t&e year%
T&e o$tstandin' amo$nt o de)tors at t&e )e'innin' and at
t&e end o t&e year respecti-ely #as Rs 29.188 and Rs
"2.188% ?etermine t&e de)tors t$rno-er ratio%
6 - 6 - 16 16
6 - 6 - 16 16
Creditors T$rno-er Ratio
Creditors T$rno-er Ratio
Net credit p$rc&ases : 4ross credit p$rc&ases - Ret$rns to
s$ppliers%
A-era'e creditors : A-era'e o creditors ;incl$din' )ills paya)le,
o$tstandin' at t&e )e'innin' and at t&e end o t&e year%
Creditors t$rno-er
ratio
:
Net credit p$rc&ases
A-era'e creditors
A lo# t$rno-er ratio relects li)eral credit terms 'ranted )y
s$ppliers. #&ile a &i'& ratio s&o#s t&at acco$nts are to )e settled
rapidly% T&e creditors t$rno-er ratio is an important tool o
analysis as a irm can red$ce its re2$irement o c$rrent assets )y
relyin' on s$pplier0s credit%
6 - 6 - 19 19
6 - 6 - 19 19
E>ample *5 Creditors T$rno-er Ratio
Creditors
t$rno-er ratio
:
;Rs 1.78.888,
:
* ;times
per year,
;Rs *2.188 Rs *9.188, A 2
Creditor0s
payment period
:
12 mont&s
: " mont&s
Creditors t$rno-er ratio. ;*,
T&e irm in pre-io$s E>amples &as made credit p$rc&ases o Rs
1.78.888% T&e amo$nt paya)le to t&e creditors at t&e )e'innin'
and at t&e end o t&e year is Rs *2.188 and Rs *9.188 respecti-ely%
Find o$t t&e creditors t$rno-er ratio%
6 - 6 - 17 17
6 - 6 - 17 17
In-entory &oldin' period
Add5 ?e)tor0s collection period
Less5 Creditor0s payment period
2 mont&s
@ 1%1 mont&s
/ " mont&s
8%1 mont&s
As a r$le. t&e s&orter is t&e cas& cycle. t&e )etter are t&e li2$idity
ratios as meas$red a)o-e and -ice -ersa%
T&e com)ined eect o t&e t&ree t$rno-er ratios
is s$mmarised )elo#5
T&e s$mmin' $p o t&e t&ree t$rno-er ratios ;(no#n as a
cas& cycle, &as a )earin' on t&e li2$idity o a irm% T&e cas&
cycle capt$res t&e interrelations&ip o sales. collections
rom de)tors and payment to creditors%
6 - 6 - 1< 1<
6 - 6 - 1< 1<
?eensi-e inter-al ratio is t&e ratio )et#een 2$ic(
assets and proCected daily cas& re2$irement%
?EFENSIDE INTERDAL RATIE
?eensi-e-
inter-al ratio
:
Li2$id assets
3roCected daily cas& re2$irement
3roCected daily
cas& re2$irement
:
3roCected cas& operatin' e>pendit$re
N$m)er o days in a year ;"61,
6 - 6 - 28 28
6 - 6 - 28 28
E>ample 15 ?eensi-e Inter-al Ratio
3roCected daily cas& re2$irement :
Rs 1.72.188
: Rs 188
"61
?eensi-e-inter-al ratio :
Rs *8.888
: 78 days
Rs 188
T&e proCected cas& operatin' e>pendit$re o a irm rom t&e
ne>t year is Rs 1.72.188% It &as li2$id c$rrent assets
amo$ntin' to Rs *8.888% ?etermine t&e deensi-e-inter-al
ratio%
6 - 6 - 21 21
6 - 6 - 21 21
Cas&-lo# rom operation ratio meas$res li2$idity o a
irm )y comparin' act$al cas& lo#s rom operations
;in lie$ o c$rrent and potential cas& inlo#s rom
c$rrent assets s$c& as in-entory and de)tors,
#it& c$rrent lia)ility%
Cas&-lo# From Eperations Ratio
Cas&-lo# rom
operations ratio
:
Cas&-lo# rom operations
C$rrent lia)ilities
6 - 6 - 22 22
6 - 6 - 22 22
Le-era'e Capital Str$ct$re Ratio
Le-era'e Capital Str$ct$re Ratio
Capital str$ct$re or le-era'e ratios t&ro# li'&t on t&e
lon'-term sol-ency o a irm%
T&ere are t#o aspects o t&e lon'-term sol-ency o a irm5
;i, A)ility to repay t&e principal #&en d$e. and
;ii, Re'$lar payment o t&e interest %
Accordin'ly. t&ere are t#o dierent types o le-era'e ratios%
First type5 T&ese ratios are
comp$ted rom t&e )alance
s&eet
Second type5 T&ese ratios are
comp$ted rom t&e Income
Statement
;a, ?e)t-e2$ity ratio
;), ?e)t-assets ratio
;c, E2$ity-assets ratio
;a, Interest co-era'e ratio
;), ?i-idend co-era'e ratio
6 - 6 - 2" 2"
6 - 6 - 2" 2"
I% ?e)t-e2$ity ratio
I% ?e)t-e2$ity ratio
Debt-equity ratio measures the ratio of long-
term or total de3bt to shareholders equity
?e)t-e2$ity ratio :
Total ?e)t
S&are&olders0 e2$ity
Lon'-term ?e)t @ S&ort
term de)t @ Et&er C$rrent
Lia)ilities : Total e>ternal
E)li'ations
?e)t-e2$ity ratio meas$res t&e ratio o lon'-term or total
de)t to s&are&olders e2$ity%
I t&e ?FE ratio is &i'&. t&e o#ners are p$ttin' $p relati-ely less
money o t&eir o#n% It is dan'er si'nal or t&e lenders and
creditors% I t&e proCect s&o$ld ail inancially. t&e creditors #o$ld
lose &ea-ily%
A lo# ?FE ratio &as C$st t&e opposite implications% To t&e creditors. a
relati-ely &i'& sta(e o t&e o#ners implies s$icient saety
mar'in and s$)stantial protection a'ainst s&rin(a'e in assets%
6 - 6 - 2* 2*
6 - 6 - 2* 2*

For t&e company also. t&e ser-icin' o de)t is
less )$rdensome and conse2$ently its credit
standin' is not ad-ersely aected. its
operational le>i)ility is not Ceopardised and it
#ill )e a)le to raise additional $nds%
T&e disad-anta'e o lo# de)t-e2$ity ratio is
t&at t&e s&are&olders o t&e irm are depri-ed
o t&e )eneits o tradin' on e2$ity
or le-era'e%
6 - 6 - 21 21
6 - 6 - 21 21
Tradin' on E2$ity
Tradin' on E2$ity
Tradin' on E2$ity ;Amo$nt in Rs t&o$sand,
3artic$lar A + C ?
;a, Total assets 1.888 1.888 1.888 1.888
Financin' pattern5
E2$ity capital 1.888 788 688 288
11G ?e)t H 288 *88 788
;),Eperatin' proit ;E+IT, "88 "88 "88 "88
Less: Interest H "8 68 128
Earnin's )eore ta>es "88 298 2*8 178
Less: Ta>es ;8%"1, 181 <*%1 7* 6"
Earnin's ater ta>es 1<1 191%1 116 119
Ret$rn on e2$ity ;per cent, 1<%1 21%< 26 17%1
Tradin' on e2$ity ;le-era'e, is t&e $se o )orro#ed $nds in
e>pectation o &i'&er ret$rn to e2$ity-&olders%
6 - 6 - 26 26
6 - 6 - 26 26
II% ?e)t to Total Capital
II% ?e)t to Total Capital
?e)t to total capital ratio :
Total de)t
3ermanent capital
3ermanent Capital : S&are&olders0 e2$ity @
Lon'-term de)t%
T&e relations&ip )et#een creditors0 $nds and o#ner0s
capital can also )e e>pressed $sin' ?e)t to total capital
ratio%
6 - 6 - 29 29
6 - 6 - 29 29
III% ?e)t to total assets ratio
III% ?e)t to total assets ratio
?e)t to total assets ratio :
Total de)t
Total assets
3roprietary ratio indicates t&e e>tent to #&ic& assets
are inanced )y o#ners $nds%
3roprietary ratio :
3roprietary $nds
Total assets
I 188
Capital 'earin' ratio is $sed to (no# t&e relations&ip )et#een e2$ity
$nds ;net #ort&, and i>ed income )earin' $nds ;3reerence
s&ares. de)ent$res and ot&er )orro#ed $nds%
3roprietary Ratio
Capital 4earin' Ratio
6 - 6 - 27 27
6 - 6 - 27 27
Co-era'e Ratio
Co-era'e Ratio
Interest Co-era'e Ratio meas$res t&e irm0s a)ility to ma(e
contract$al interest payments%
Interest co-era'e ratio :
E+IT ;Earnin' )eore interest and ta>es,
Interest
?i-idend co-era'e ratio :
EAT ;Earnin' ater ta>es,
3reerence di-idend
?i-idend Co-era'e Ratio meas$res t&e irm0s a)ility to pay di-idend
on preerence s&are #&ic& carry a stated rate o ret$rn%
Interest Co-era'e Ratio
?i-idend Co-era'e Ratio
6 - 6 - 2< 2<
6 - 6 - 2< 2<
Total i>ed c&ar'e co-era'e ratio meas$res t&e irm0s a)ility to meet all i>ed
payment o)li'ations%
Total i>ed c&ar'e
co-era'e ratio
E+IT @ Lease 3ayment
Interest @ Lease payments @ ;3reerence di-idend
@ Instalment o 3rincipal,F;1-t,
:
Total i>ed c&ar'e co-era'e ratio
Jo#e-er. co-era'e ratios mentioned a)o-e. s$er rom one maCor
limitation. t&at is. t&ey relate t&e irm0s a)ility to meet its -ario$s
inancial o)li'ations to its earnin's% Accordin'ly. it #o$ld )e
more appropriate to relate cas& reso$rces o a irm to its
-ario$s i>ed inancial o)li'ations%
Total Cas&lo# Co-era'e Ratio
Total cas&lo#
co-era'e ratio
Lease payment
@ Interest
E+IT @ Lease 3ayments @ ?epreciation @ Non-cas& e>penses
:
;3rincipal repayment,
;1/ t,
;3reerence di-idend,
;1 - t,
@
@
6 - 6 - "8 "8
6 - 6 - "8 "8
?e)t Ser-ice Co-era'e Ratio
?e)t Ser-ice Co-era'e Ratio
?e)t-ser-ice co-era'e ratio ;?SCR, is considered a more
compre&ensi-e and apt meas$re to comp$te de)t ser-ice capacity
o a )$siness irm%
?E+T SERDICE CA3ACITY
?SCR
:
Instalment
t
K
n
t:1
EAT
t
EA
t
@ @
K
K
n
t:1
?epreciation
t
@
Interest
t
?e)t ser-ice capacity is t&e a)ility o a irm to ma(e t&e
contract$al payments re2$ired on a sc&ed$led )asis o-er t&e lie
o t&e de)t%
L Tata Mc4ra#-Jill 3$)lis&in' Company Limited. Financial Mana'ement L Tata Mc4ra#-Jill 3$)lis&in' Company Limited. Financial Mana'ement
L Tata Mc4ra#-Jill 3$)lis&in' Company Limited. Financial Mana'ement L Tata Mc4ra#-Jill 3$)lis&in' Company Limited. Financial Mana'ement
6 - 6 - "1 "1
6 - 6 - "1 "1
A'ro Ind$stries Ltd &as s$)mitted t&e ollo#in' proCections% Yo$ are
re2$ired to #or( o$t yearly de)t ser-ice co-era'e ratio ;?SCR,
and t&e a-era'e ?SCR%
;Fi'$res in Rs la(&,
Year Net proit or t&e
year
Interest on term loan
d$rin' t&e year
Repayment o term
loan in t&e year
1
2
"
*
1
6
9
7
21%69
"*%99
"6%81
1<%28
17%61
17%*8
17%""
16%*1
1<%1*
19%6*
11%12
12%68
18%87
9%16
1%8*
Nil
18%98
17%88
17%88
17%88
17%88
17%88
17%88
17%88
T&e net proit &as )een arri-ed ater c&ar'in' depreciation o Rs 19%67 la(&
e-ery year%
E>ample 65 ?e)t-Ser-ice Co-era'e Ratio
E>ample 65 ?e)t-Ser-ice Co-era'e Ratio
L Tata Mc4ra#-Jill 3$)lis&in' Company Limited. Financial Mana'ement L Tata Mc4ra#-Jill 3$)lis&in' Company Limited. Financial Mana'ement
L Tata Mc4ra#-Jill 3$)lis&in' Company Limited. Financial Mana'ement L Tata Mc4ra#-Jill 3$)lis&in' Company Limited. Financial Mana'ement
6 - 6 - "2 "2
6 - 6 - "2 "2
Sol$tion
Sol$tion
Ta)le "5 ?etermination o ?e)t Ser-ice Co-era'e Ratio
;Amo$nt in la(& o r$pees,
Ye
ar
Net
proit
?epreciation Interest Cas&
a-aila)le
;col%
2@"@*,
3rincipal
instalment
?e)t
o)li'ation
;col% * @ col% 6,
?SCR Mcol% 1
A col% 9
;No% o times,N
1 2 " * 1 6 9 7
1
2
"
*
1
6
9
7
21%69
"*%99
"6%81
1<%28
17%61
17%*8
17%""
16%*1
19%67
19%67
19%67
19%67
19%67
19%67
19%67
19%67
1<%1*
19%6*
11%12
12%68
18%87
9%16
1%8*
Nil
17%*<
98%8<
67%71
*<%*7
*6%"9
*"%6*
*1%81
"*%8<
18%98
17%88
17%88
17%88
17%88
17%88
17%88
17%88
2<%7*
"1%6*
""%12
"8%68
27%87
21%16
2"%8*
17%88
1%<6
1%<9
2%87
1%62
1%61
1%91
1%97
1%7<
A-era'e ?SCR ;?SCR A 7, 1%7"
6 - 6 - "" ""
6 - 6 - "" ""
3roita)ility Ratio
3roita)ility Ratio
3roita)ility ratios can )e comp$ted eit&er rom
sales or in-estment%
3roita)ility Ratios
Related to Sales
3roita)ility Ratios
Related to In-estments
;i, 3roit Mar'in
;ii, E>penses Ratio
;i, Ret$rn on In-estments
;ii, Ret$rn on S&are&olders0
E2$ity
6 - 6 - "* "*
6 - 6 - "* "*
3roit Mar'in
3roit Mar'in
4ross proit mar'in meas$res t&e percenta'e o eac& sales
r$pee remainin' ater t&e irm &as paid or its 'oods%
4ross proit mar'in :
4ross 3roit
Sales
I 188
4ross 3roit Mar'in
6 - 6 - "1 "1
6 - 6 - "1 "1
Net proit mar'in can )e comp$ted in t&ree #ays
iii% Net 3roit Ratio :
Earnin' ater interest and ta>es
Net sales
ii% 3re-ta> 3roit Ratio :
Earnin's )eore ta>es
Net sales
i% Eperatin' 3roit Ratio :
Earnin' )eore interest and ta>es
Net sales
Net proit mar'in meas$res t&e percenta'e o eac& sales r$pee
remainin' ater all costs and e>pense incl$din' interest
and ta>es &a-e )een ded$cted%
Net 3roit Mar'in
6 - 6 - "6 "6
6 - 6 - "6 "6
E>ample 95 From t&e ollo#in' inormation o a irm.
determine ;i, 4ross proit mar'in and ;ii, Net proit
mar'in%
1% Sales
2% Cost o 'oods sold
"% Et&er operatin' e>penses
Rs 2.88.888
1.88.888
18.888
;1, 4ross proit mar'in :
Rs 1.88.888
: 18 per cent
Rs 2.88.888
;2, Net proit mar'in :
Rs 18.888
: 21 per cent
Rs 2.88.888
6 - 6 - "9 "9
6 - 6 - "9 "9
E>penses Ratio
E>penses Ratio
i% Cost o 'oods sold :
Cost o 'oods sold
Net sales
I 188
ii% Eperatin' e>penses :
Administrati-e e>p% @ Sellin' e>p%
Net sales
I 188
iii% Administrati-e e>penses :
Administrati-e e>penses
Net sales
I 188
i-% Sellin' e>penses ratio :
Sellin' e>penses
Net sales
I 188
-% Eperatin' ratio :
Cost o 'oods sold @ Eperatin' e>penses
Net sales
I 188
-i% Financial e>penses :
Financial e>penses
Net sales
I 188
6 - 6 - "7 "7
6 - 6 - "7 "7
Ret$rn on In-estment
Ret$rn on In-estment
Ret$rn on In-estments meas$res t&e o-erall eecti-eness
o mana'ement in 'eneratin' proits #it& its a-aila)le
assets%
i% Ret$rn on Assets ;REA,
REA :
EAT @ ;Interest / Ta> ad-anta'e on interest,
A-era'e total assets
ii% Ret$rn on Capital Employed ;RECE,
RECE :
EAT @ ;Interest / Ta> ad-anta'e on interest,
A-era'e total capital employed
6 - 6 - "< "<
6 - 6 - "< "<
Ret$rn on S&are&olders0 E2$ity
Ret$rn on S&are&olders0 E2$ity
Ret$rn on total s&are&olders0 e2$ity :
Net proit ater ta>es
A-era'e total s&are&olders0 e2$ity
I 188
Ret$rn on ordinary s&are&olders0 e2$ity ;Net #ort&, :
Net proit ater ta>es / 3reerence di-idend
A-era'e ordinary s&are&olders0 e2$ity
I 188
Ret$rn on s&are&olders e2$ity meas$res t&e ret$rn on t&e
o#ners ;)ot& preerence and e2$ity s&are&olders,
in-estment in t&e irm%
6 - 6 - *8 *8
6 - 6 - *8 *8
Eiciency Ratio
Eiciency Ratio
Acti-ity ratios meas$re t&e speed #it& #&ic& -ario$s
acco$ntsFassets are con-erted into sales or cas&%
i% In-entory T$rno-er meas$res t&e acti-ityFli2$idity o
in-entory o a irmO t&e speed #it& #&ic& in-entory is sold
In-entory T$rno-er Ratio :
Cost o 'oods sold
A-era'e in-entory
i% In-entory T$rno-er meas$res t&e acti-ityFli2$idity o
in-entory o a irmO t&e speed #it& #&ic& in-entory is sold
Ra# materials t$rno-er :
Cost o ra# materials $sed
A-era'e ra# material in-entory
i% In-entory T$rno-er meas$res t&e acti-ityFli2$idity o
in-entory o a irmO t&e speed #it& #&ic& in-entory is sold
6or(-in-pro'ress t$rno-er :
Cost o 'oods man$act$red
A-era'e #or(-in-pro'ress in-entory
In-entory t$rno-er meas$res t&e eiciency o -ario$s types
o in-entories%
6 - 6 - *1 *1
6 - 6 - *1 *1
Li2$idity o a irm0s recei-a)les can )e e>amined
in t#o #ays%
i% In-entory T$rno-er meas$res t&e acti-ityFli2$idity o in-entory o
a irmO t&e speed #it& #&ic& in-entory is sold
i% ?e)tors t$rno-er :
Credit sales
A-era'e de)tors @ A-era'e )ills recei-a)le ;+FR,
2% A-era'e collection period :
Mont&s ;days, in a year
?e)tors t$rno-er
i. Inventory Turnover measures the activity/liquidity of inventory of a
firm; the speed with which inventory is sold
Alternati-ely :
Mont&s ;days, in a year ;>, ;A-era'e ?e)tors @ A-era'e ;+FR,
Total credit sales
A'ein' Sc&ed$le ena)les analysis to identiy
slo# payin' de)tors%
?e)tors T$rno-er Ratio
?e)tors T$rno-er Ratio
6 - 6 - *2 *2
6 - 6 - *2 *2
Assets T$rno-er Ratio
Assets T$rno-er Ratio
i% In-entory T$rno-er meas$res t&e acti-ityFli2$idity o in-entory o
a irmO t&e speed #it& #&ic& in-entory is sold
i% Total assets t$rno-er :
Cost o 'oods sold
A-era'e total assets
ii% Fi>ed assets t$rno-er :
Cost o 'oods sold
A-era'e i>ed assets
i% In-entory T$rno-er meas$res t&e acti-ityFli2$idity o in-entory o
a irmO t&e speed #it& #&ic& in-entory is sold
iii% Capital t$rno-er :
Cost o 'oods sold
A-era'e capital employed
i-% C$rrent assets t$rno-er :
Cost o 'oods sold
A-era'e c$rrent assets
i% In-entory T$rno-er meas$res t&e acti-ityFli2$idity o in-entory o
a irmO t&e speed #it& #&ic& in-entory is sold
-% 6or(in' capital t$rno-er :
Cost o 'oods sold
Net #or(in' capital
Assets t$rno-er indicates t&e eiciency #it& #&ic& irm
$ses all its assets to 'enerate sales%
6 - 6 - *" *"
6 - 6 - *" *"
1, Ret$rn on s&are&olders0 e2$ity : EATFA-era'e total s&are&olders0 e2$ity%
2, Ret$rn on e2$ity $nds : ;EAT / 3reerence di-idend,FA-era'e ordinary
s&are&olders0 e2$ity ;net #ort&,%
", Earnin's per s&are ;E3S, : Net proit a-aila)le to e2$ity s&are&olders0
;EAT / ?p,FN$m)er o e2$ity s&ares o$tstandin' ;N,%
*, ?i-idends per s&are ;?3S, : ?i-idend paid to ordinary
s&are&oldersFN$m)er o ordinary s&ares o$tstandin' ;N,%
1, Earnin's yield : E3SFMar(et price per s&are%
6, ?i-idend Yield : ?3SFMar(et price per s&are%
9, ?i-idend paymentFpayo$t ;?F3, ratio : ?3SFE3S%
7, 3rice-earnin's ;3FE, ratio : Mar(et price o a s&areFE3S%
<, +oo( -al$e per s&are : Erdinary s&are&olders0 e2$ityFN$m)er o e2$ity
s&ares o$tstandin'%
6 - 6 - ** **
6 - 6 - ** **
Inte'rated Analysis Ratio
Inte'rated Analysis Ratio
;1, Rate o ret$rn on assets ;REA, can )e decomposed in to
;i, Net proit mar'in ;EATFSales,
;ii, Assets t$rno-er ;SalesFTotal assets,
;2, Ret$rn on E2$ity ;REE, can )e decomposed in to
;i, ;EATFSales, > ;SalesFAssets, > ;AssetsFE2$ity,
;ii, ;EATFE+T, > ;E+TFE+IT, > ;E+ITFSales, > ;SalesFAssets, >
;AssetsFE2$ity,
Inte'rated ratios pro-ide )etter insi'&t a)o$t inancial and
economic analysis o a irm%
6 - 6 - *1 *1
6 - 6 - *1 *1
Rate o Ret$rn on Assets
EAT as percenta'e o
sales
Assets
t$rno-er
EAT Sales ?i-ided )y Sales Total Assets ?i-ided )y
C$rrent assets Fi>ed assets
4ross proit : Sales less
cost o 'oods sold
Min$s
E>penses5 Sellin'
Administrati-e Interest
Min$s
Income-ta>
S&are&older e2$ity
3l$s
Lon'-term )orro#ed
$nds
3l$s
C$rrent lia)ilities
3l$s
Alternati-ely
6 - 6 - *6 *6
6 - 6 - *6 *6
Ret$rn on Assets
Ret$rn on Assets
Earnin' 3o#er
Earnin' po#er is t&e o-erall proita)ility o a irmO is comp$ted
)y m$ltiplyin' net proit mar'in and assets t$rno-er%
Earnin' po#er : Net proit mar'in P Assets t$rno-er
6&ere. Net proit mar'in : Earnin' ater ta>esFSales
Asset t$rno-er : SalesFTotal assets
i% In-entory T$rno-er meas$res t&e acti-ityFli2$idity o in-entory o
a irmO t&e speed #it& #&ic& in-entory is sold
Earnin' 3o#er :
Earnin' ater ta>es
Sales
Sales
Total Assets
EAT
Total assets
> >
6 - 6 - *9 *9
6 - 6 - *9 *9
Ass$me t&at t&ere are t#o irms. A and +. eac& &a-in' total assets
amo$ntin' to Rs *.88.888. and a-era'e net proits ater
ta>es o 18 per cent. t&at is. Rs *8.888. eac&%
Ta)le *5 Ret$rn on Assets ;REA, o Firms A and +
3artic$lars Firm A Firm +
1% Net sales
2% Net proit
"% Total assets
*% 3roit mar'in ;2 A 1, ;per cent,
1% Assets t$rno-er ;1 A ", ;times,
6% REA ratio ;* P 1, ;per cent,
Rs *.88.888
*8.888
*.88.888
18
1
18
Rs *8.88.888
*8.888
*.88.888
1
18
18
Firm A &as sales o Rs *.88.888. #&ereas t&e sales o irm + a''re'ate
Rs *8.88.888% ?etermine t&e REA o irms A and +% Ta)le * s&o#s
t&e REA )ased on t#o components%
EIAM3LE5 7
6 - 6 - *7 *7
6 - 6 - *7 *7
Ret$rn on E2$ity ;REE,
Ret$rn on E2$ity ;REE,
REE is t&e prod$ct o t&e ollo#in' t&ree ratios5 Net proit ratio ;>,
Assets t$rno-er ;>, Financial le-era'eFE2$ity m$ltiplier
T&ree-component model o REE can )e )roadened $rt&er to
consider t&e eect o interest and ta> payments%
As a res$lt o t&ree s$)-parts o net proit ratio. t&e REE
is composed o t&e ollo#in' 1 components%
i% In-entory T$rno-er meas$res t&e acti-ityFli2$idity o
in-entory o a irmO t&e speed #it& #&ic& in-entory is sold
EAT
Earnin's )eore ta>es
E+T
E+IT
E+IT
Sales
Net 3roit
Sales

!
EAT
E+T
E+T
E+IT
E+IT
Sales
Sales
Assets
Assets
E2$ity

6 - 6 - *< *<
6 - 6 - *< *<
A 1-#ay )rea(-$p o REE ena)les t&e mana'ement o a irm to analyse t&e eect o interest
payments and ta> payments separately rom operatin' proita)ility% To ill$strate $rt&er ass$me 7
per cent interest rate. "1 per cent ta> rate and ot&er operatin' e>pense o Rs ".22.*62 ;Firm A, and
Rs "<.26.*62 ;Firm +, or t&e acts contained in E>ample 7% Ta)le 1 s&o#s t&e REE ;)ased on t&e
1 components, o Firms A and +%
Ta)le 15 REE ;Fi-e-#ay +asis, o Firms A and +
3artic$lars Firm A Firm +
Net sales
Less5 Eperatin' e>penses
Earnin's )eore interest and ta>es ;E+IT,
Less5 Interest ;7G,
Earnin's )eore ta>es ;E+T,
Less5 Ta>es ;"1G,
Earnin's ater ta>es ;EAT,
Total assets
?e)t
E2$ity
EATFE+T ;times,
E+TFE+IT ;times,
E+ITFSales ;per cent,
SalesFAssets ;times,
AssetsFE2$ity ;times,
REE ;per cent,
Rs *.88.888
".22.*62
99.1"7
16.888
61.1"7
21.1"7
*8.888
*.88.888
2.88.888
2.88.888
8%61
8%9<
1<%*
1
2
28
Rs *8.88.888
"<.26.*62
9".1"7
12.888
61.1"7
21.1"7
*8.888
*.88.888
2.18.888
1.18.888
8%61
8%7*
1%7*
18
1%6
16
6 - 6 - 18 18
6 - 6 - 18 18
Common Si!e Statements
Common Si!e Statements
3reparation o common-si!e inancial statements is an e>tension
o ratio analysis% T&ese statements con-ert a)sol$te s$ms into
more easily $nderstood percenta'es o some )ase amo$nt% It is
sales in t&e case o income statement and totals o assets and
lia)ilities in t&e case o t&e )alance s&eet%
Ratio analysis in -ie# o its se-eral limitations s&o$ld )e
considered only as a tool or analysis rat&er t&an as an end in
itsel% T&e relia)ility and si'niicance attac&ed to ratios #ill lar'ely
&in'e $pon t&e 2$ality o data on #&ic& t&ey are )ased% T&ey are
as 'ood or as )ad as t&e data itsel% Ne-ert&eless. t&ey are an
important tool o inancial analysis%
Limitations