Analysis of Financial Statements- Roshan

Analysis of Financial Statements

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FINANCIAL ANALYSIS -SK SHETTY

11/26/2010

Analysis of Financial Statementsy Analysis is the process of critically examining the information

contained in the financial statements by using suitable tools.y Financial statements do not speak anything of itself. The user of the

financial statements will be able to draw meaningful conclusions only by his analysis and interpretation.y For this purpose, the financial statements are required to be classified,

rearranged and compared with the figures of previous years or other similar firms.

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Objectives of Analysisy To asses the present and future profitability of the concern. y To asses operational efficiency. y To asses short term and long term solvency. y To make a comparative study other firms. y To make business forecasts. y To make management decisions.

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Techniques(tools) of Analysisy Comparative financial statements. y Common size statements. y Trends analysis. y Ratio analysis.

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Comparative Statementsy Under this method, financial statements are arranged in such a way as

to provide comparative information for the current and previous years.y It indicates the changes both in absolute and percentage terms. y It brings about the areas where there have been significant changes.

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Comparative Income StatementItems Net sales Cost of goods sold 1)G.P Operating Expenses Admn.Expenses Selling Expenses 2)Operating expenses operating profits(1-2) Add other income 31/03/2009 1370 838 532 94 188 282 250 44 294 Less interest paid Net profit Income tax6

31/03/2010 1442 926 516 92 182 274 242 50 292 44 248 124 124

Changes Absolute Percentage +72 +88 16 -2 -6 -8 -8 +6 -2 -2 -2 -2.13 -3.19 -2.84 -3.20 +13.64 -0.068 -0.80 -1.5911/26/2010

+5.26 +10.50

44 250 124 126

Net profit after tax


2 Common size Statementy In this statement, the relationship of various items in the financial

statements is expressed as a percentage of some common item in the statement.y For example, in the income statement the sale figure is taken as base

and all other figures are expressed as percentage of sales.y Similarly, in the Balance sheet the total of assets of liabilities is taken as

base and all other figures are expressed as percentage of this total.y The base figure is reduced to 100 and each item is shown as a

component to the whole.7 FINANCIAL ANALYSIS -SK SHETTY 11/26/2010

31/03/2009 Particulars Amount Net sales Cost of goods sold G.P (1) Less operating Expenses Admn. Expenses Selling expenses Total operating expenses (2) Operating profit(1-2) Add other income 94 188 282 250 44 294 Less interest paid N.P before tax Less income tax 44 250 124 6.86 13.72 20.58 18.25 3.21 21.46 3.21 18.25 9.05 92 182 274 242 50 292 44 248 124 124 1370 838 532 % in relation to sales 100 61.17 3883 Amount 1442 926 516

31/03/2010 % in relation to sales 100 64.22 35.78

6.38 12.62 19.00 16.73 3.47 20.25 3.05 17.20 8.60 8.6011/26/2010

Net profit FINANCIAL ANALYSIS -SK SHETTY after tax 126 9.20 8

3. Trends analysisy Trend analysis involves calculation of percentage changes in financial

statement items for a number of successive years.y It is an extension of comparative statement analysis to several years. y Trend analysis is carried out by assigning a value of 100 to the financial

statements items in a past financial year used as the base year.y Financial statement items in the following years are expressed as a

percentage of the base year value.

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Problem Sales Cost of goods sold Gross profit Selling expenses Net operating profit

2010 13000 7280 5720 1200 4520

2009 12000 6960 5040 1100 3940

2008 9500 5890 3610 970 2640

2007 10000 6000 4000 1000 3000

Trends analysis Sales Cost of goods sold Gross profit Selling expenses Net operating profit

2010 100 100 100 100 100

2009 95 98 90 97 88

2008 120 116 126 110 131

2007 130 121 143 120 150

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Ratio Analysisy Ratio represents a relationship between two or more sets of figures

mentioned in the financial statements.y Absolute figures, standing alone in the financial statements may not

convey the full meaning unless compared with another set of figures.y Ratio analysis stands for the process of determining and presenting the

relationship of items in the financial statements.

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Types Of RatiosLiquidity Ratio : Liquidity- the ability of the firm to

meet its short term obligationsProfitability Ratio: how effective the firm is at

generating profits on its sales and capital assets.

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ctdTurnover/performance/Efficiency/Activity Ratio : the

efficiency with which the company uses its assets.Solvency Ratio/Leverage Ratio: Gearing- information on the

relationship between the exposure of the firm to outside loans as compared to owned funds or share capital(equity

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Classification of Ratios1. y y y

Profitability RatiosProfitability ratios measure the degree of operating success of a company in an accounting period. Profit has always been considered as the main indicator of a successful business. Important profitability ratios are as underProfit Margin= profit after tax net sales This ratio indicates the net profit made in relation to sales. It provides indication of the cushion available to the company in event of an increase in costs or a drop in the sale prices. FINANCIAL ANALYSIS -SK SHETTY

y

y

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2. Asset Turnovery This measures the efficiency with which assets are utilized. y it indicates how many times the assets are turned over in a period. Net Sales Average total Assets 3. Return on InvestmentProfit After Tax Average total assets y This ratio indicates how profitability the assets were used by the company.

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4. Liquidity Ratiosy Liquidity is the ability of a company to meet its short term obligations when they fall due. y A company should have enough cash and other current assets which can be converted into cash so that it can pay its suppliers and lenders on time. 5. Current Ratioy This indicates the ability of the company to pay its obligations in the short term. Current Assets Current Liabilities

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6. Quick Ratioy All current assets are not equally liquid. Inventories are less liquid. This ratio is computed a supplement to current ratio. y It is calculated as underLiquid assets Current assets Inventory I.e. Current Liabilities

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7. Debtor Turnovery This ratio measures the efficiency of a companys credit and collection policy. y It shows the number of times each year a companys debtors turn into cash. y It explains the quality of debtors and collection efforts. Net Sales Average Debtors 8. Average Collection Periody This indicates the time taken by the company for collection of its debts. Average Debtors Net sales/360 days

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9. Inventory turnovery This ratio shows the number of times a companys inventory is turned into sales. y Investment in inventory represents idle cash. The lesser the inventory, the greater the cash available for other operating needs. y It reduces the carry over costs. y High inventory turnover indicates efficient inventory management. costs of goods sold average inventories

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10. Solvency Ratios or Leverage Ratiosy This ratio indicates the relationship between the owned funds and borrowed funds of a company. y Equity capital = capital that belongs to owners. y Debt capital = amount that belongs to lenders/ creditors. y This ratio indicates the ability of a company to pay current as well as long term liabilities. 11. Debt/ equity ratioy It indicates the relationship between owned funds and borrowed funds. Total Debts Total Equity y Too high or too low a ratio may be disadvantageous.20 FINANCIAL ANALYSIS -SK SHETTY 11/26/2010

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Analysis of Financial Statements- Roshan