Question

Financial ratio statements

In what ways can ratios be compared? (List and give examples of the different type of Comparisons - There should be four types - (i.e. Historical, and Projected ratios are two that can be done within the same company)

What are the classifications of ratios (List them and explain what information they provide)

For each classification above - list the ratios that fit within the classification

Answer 1

FINANCIAL RATIO STATEMENTS -

Financial ratios are relationships determined from a company financial information and used for comparison purpose.

EXAMPLE-It inclues such often referred to measure as return on investment, return on assets,and debt to equity etc.

These ratios are the result of dividing one account balance of company of one year to another year. Because ratio analysis of the company projected the actual position of the company where company stands in the market in future against competitors.

Usually, these measurements or account balances are found on one of the company financial statements-

BALANCE SHEET

INCOME STATEMENT

CASH FLOW STATEMENT

Financial ratios can provide small business and large business owners and managers with a valuable tool with which to measure their progress against predetermined internal goals, a certain competitor,overall industry also.

Most over common size statement and comparative study folllow for comparison.

HORIZONATAL and VERTICAL ANALYSIS are also performed by using percentage comparison for the company analysis by its own.

LIST OF COMPARISONS WITH EXAMPLE

FINANCIAL STATEMENT RATIO ANALYSIS

ABC COMPANY

HISTORICAL YEAR1 PROJECTED YEAR2

PROFTABILITY ANALYSIS

Sales 9188748 10000000

cost of sale 6844915 6900000

gross profit 2343833 3100000

income from operations 522274 522274

Net income 310178 310178

Gross profit margin 25.5% 31%

operating Profit margin 5.7% 5.2%

Net profit margin 3.4% 3.1%

DEBT RATIO

Total assets 5300000 5500000

total liablities 4100000 3900000

Total owner equity 1200000 1600000

DEBT TO ASSETS 77.4% 70.9%

DEBT TO EQUITY 342% 244%

INVESTMENT RETURN

Net income 310178 310178

Total assets 5300000 5500000

RETURN ON INVESTMENT 5.9% 5.6%

CLASSIFICATIONS OF RATIOS

Ratios may be classified in the following two ways-

1 Traditional classification

2 Functional classification

1. TRADITIONAL CLASIFICATION- Traditional classification bsed on the financial stements from which th ratios can be calculated. under this  classification the ratio are classified as-

Balance sheet ratio

income statement ratio

inter statemnent ratio

2. FUNCTIONAL CLASSIFICATION- functional classification of ratios is based on the objective for which ratios are calculated and is the mainly commonly used classification.It involves-

Liquidity ratio

long term solvency ratio

turnover ratios

profitability ratio

PROFITABILITY RATIO

This ratio presents the return that are generated from the business with capital invested.

A. GROSS PROFIT RATIOS- It represents the operating profit of the company after addjusting the cost of goods that are sold. The higher the gross profit ratio, the lower the cost of goods sold and the greater satisfaction for the management.

Gross profit ratio = gross profit/net sale*100

Example-

190000/950000*100=20%

B. NET PROFIT RATIO- It shows the overall profitability of the company after deducting all cash and non cash expenses. the higher the net profit ratio the higher the net worth and he strongerr the balance sheet

net profit ratio= net profit/net sale *100

NET PROFIT= OPERATING PROFIT-NON OPERATING EXPENSES (LOSS ON FIXED ASSETS,INTERES T ON LONG TERM BORROWINGS)+NON OPERATING INCOME (INCOME FROM INVESTMENTS)

EXAMPLE- SALE 2500000

=250000-25000-30000+40000

235000

NET PROFIT RATIOS=235000/2500000*100=9.4%  

C. OPERATING PROFIT RATIO-

It shows the soundness of the company and the ability to pay off its debt obligations.

OPERATING PROFIT RATIO= EBIT/NET SALES*100

D. RETURN ON CAPITAL EMPLOYED- It represents the profitability of the company with the capital invested in the business.

RETURN ON CAPITAL EMPLOYED = EBIT/CAPIAL EMPLOYED

SOLVENCY RATIO

These ratio shows whetherr the company is solvent and ableto pay off the debts to the lendors or the creditors.

DEBT EQUITY RATIO-

It shows the leverage of the company. A low ratio means company has lesser amount of debt on its bokks and more equity diluted.2:1 is an ideal ratio for the company.

DEBT EQUITY RATIO= TOTAL DEBT/SHAREHOLDER FUND

TOTAL DEBT= LONG TERM FUND+SHORT TERM FUND+OTHER FIXED PAYMENTS

SHAREHOLDER FUND= EQUITY SHARE CAPITAL+RESERVES+PREFERENCE SHARE CAPITAL-FICTIOUS ASSETS

INTEREST COVERAGE RATIO= It shows the how many time company profit are capable of covering interst.

LIQUIDITY RATIO=

These ratios shows the co mpany has enough liquidity to meet its short term demand or not. higher the liquidity shows more cash in the business.

CURRENT RATIO - It shows the liquidity of the company in the next 12 months. high ratio presents the a lot of money in stuck. so 1:1 is ideal ratio.

current ratio=current assets/current liablities

QUICK RATIO- It shows how cash enrich the company to pay ff the immediate liablities in the short term.

QUICK RATIO= CASH AND CASH EQUIVALENTS+MARKETABLE SECURITIES+ACCOUNT RECEIVABLES

TURNOVER RATIO= These ratio shows the efficiency of the assets and liablities of the company are used to generate revenue.

FIXED ASSETS TURNOVER RATIO- It shows the return on investment in fixed assets.

fixed assets turnover ratio= net sale/average fixed assets

INVENTORY TURNOVER RATIO=It presents how fast the company is able to convert its inventor into sales.

ITR = COST OF GOODS SOLD/AVERAGE INVENTORY

RECEIVABLE TURNOVER RATIO= IT shows the efficiency of the company to collect its receivable. How many time the receivables are coverted ino cash are calcuales in it.

RTR= NET CREDIT SALES/AVERAGE RECEIVABLES

EARNING RATIO= This ratio shows about the return that company generates for its shareholders that is owner of the company.

PE RATIO= It shows the earning multiple of the company. the market value of the share based on the multiple. A high ratio shows positive sign for the business.

PE RATIO =Market price per share/earning per share

EARNING PER SHARE= It shows the monetary value of the earnings of the earning of each shareholder.

EPS= NET INCOME-PREFERED DIVIDEND/WEIGHTED AVERAGE OF SHARE OUTSTANDING

RETURN ON NET WORTH= It shows how much profit company generated with the invested capital from equity and preferred shareholder,

RETURN ON NET WORTH=NET PROFIT/EQUITY