Question

All ratio are inter related to one another. Discuss the pyramid of ratio according to diagram

net & T. Sales & T.soles T. Asso Het TT Morgin X TATO X Gross Profit Margin Operating Protil Morgan INTO Tax expenses looks PPE TO Ti Asset T. Equity Financial Leverage Quick Rako Georing roto Int Coverage ratio ARTO

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Answer 1

1]	The three ratios given, namely the net margin ratio, the
	total assets turnover ratio and the equity multiplier, are
	the three distinct components of the ROE [Return on equity].
	The ROE can be improved by improving the component
	ratios.
	Those three main component ratios can be further
2]	decomposed into its constituent ratios.
	Decomposing Net margin:
	Net margin [Net income/Sales] can be decomposed into
	Gross profit margin, Operating profit margin and tax expenses/
	Sales. These constituent ratios further help in analyzing the
	main ratio in stages.
	While the gross profit ratio indicates the gross margin, the
	operating profit ratio indicates the impact of operating expenses
	on the net operating income. The tax expense/sales further
	studies the impact of taxes.
	Total assets turnover ratio:
	The component ratios analyze the turnover as accounts receivable
	turnover ratio, inventory ratio and PPE tunrover ratio all in terms
	of sales. These help to anlzye the efficiency with which the
	asset components are utilized.
	The total asset utilization can be improved by imroveing the
	turnover ratios of the individual asset groups.
	Financial leverage [Equity multiplier]
	This is futher studed as quick ratio, gearing ratio and interest
	coverage ratio. These ratios test the short term and long term
	solvency.
	The quick ratio [Quick assets/Current liabilities] indicates the
	position with respect to short term obligations.
	The gearing ratio indicates the extent of debt in the total capital.
	[Total debt/Total equity, Total debt/Total assets].
	The long term solvency of the firm is revealed by these ratios.
	Further, the interest coverage ratio [EBIT/Interest] tells how many
	times the EBIT is capable of paying the interest cost.
3]	Thus all the component ratios are interrelated through the ROE.