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CHAPTER NO- 1

INTRODUCTION

Ratio analysis is an important tool for analyzing nancial statement. The

data given in nancial statements either balance sheet or pro t and loss

account in absolute form is silent or dump and are unable to say anything.

Ratios are relative from nancial data and very useful tool to check upon

the e ciency of a rm. Some ratios indicate the trend or progress or

downfall of the business rm.

e nition of !Ratio "nalysis!

A tool used by individuals to conduct a quantitative analysis of information in a

company's financial statements. Ratios are calculated from current year numbers and are then

compared to previous years, other companies, the industry, or even the economy to judge the

performance of the company. Ratio analysis is predominately used by proponents of

fundamental analysis.

There are many ratios that can be calculated from the financial statements pertaining

to a company's performance, activity, financing and liquidity. Some common ratios include

the price-earnings ratio, debt-equity ratio, earnings per share, asset turnover and or!ing

capital.

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Ratio analysis is based on different ratios hich are calculated from the accounting

data contained in the financial statements. "ifferent ratios are used for different problems.

MEANING OF RATIO:

A financial ratio #or accounting ratio$ is a relative magnitude of t o selected numerical

values ta!en from an enterprise's financial statements . %ften used in accounting, there are

many standard ratios used to try to evaluate the overall financial condition of a corporation or

other organi&ation. inancial ratios may be used by managers ithin a firm, by current and

potential shareholders #o ners$ of a firm, and by a firm's creditors . inancial analysts use

financial ratios to compare the strengths and ea!nesses in various companies. ()* +f shares in

a company are traded in a financial, the mar!et price of the shares is used in certain financial

ratios.

Ratios can be e pressed as a decimal value, such as .) , or given as an

equivalent percent value, such as ) . Some ratios are usually quoted as percentages,

especially ratios that are usually or al ays less than ), such as earnings yield , hile others are

usually quoted as decimal numbers, especially ratios that are usually more than ), such as /01

ratio

). The ratio refers to the numerical relationship bet een t o variables2. The relationship bet een t o figures can be established on the basis, of some logical

methods, hich is called ratio.3. Ratio is an assessment of one number in relation to the other.1. MODE OF EXPRESSION: This is quantitative relationship may be e pressed in

either of the follo ing ays 4 Rate, /roportion and /ercentage.

http://en.wikipedia.org/wiki/Financial_statementhttp://en.wikipedia.org/wiki/Shareholderhttp://en.wikipedia.org/wiki/Creditorhttp://en.wikipedia.org/wiki/Creditorhttp://en.wikipedia.org/wiki/Financial_analysthttp://en.wikipedia.org/wiki/Financial_analysthttp://en.wikipedia.org/wiki/Financial_ratio#cite_note-1http://en.wikipedia.org/wiki/Decimal_separatorhttp://en.wikipedia.org/wiki/Percenthttp://en.wikipedia.org/wiki/Percenthttp://en.wikipedia.org/wiki/Earnings_yieldhttp://en.wikipedia.org/wiki/P/E_ratiohttp://en.wikipedia.org/wiki/P/E_ratiohttp://en.wikipedia.org/wiki/Shareholderhttp://en.wikipedia.org/wiki/Creditorhttp://en.wikipedia.org/wiki/Financial_analysthttp://en.wikipedia.org/wiki/Financial_ratio#cite_note-1http://en.wikipedia.org/wiki/Decimal_separatorhttp://en.wikipedia.org/wiki/Percenthttp://en.wikipedia.org/wiki/Earnings_yieldhttp://en.wikipedia.org/wiki/P/E_ratiohttp://en.wikipedia.org/wiki/P/E_ratiohttp://en.wikipedia.org/wiki/Financial_statement

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NATURE OF RATIO ANALYSIS:

+n financial analysis, ratio is used as an inde of yardstic! for evaluating the financial

position and performance of the firm. +t is a technique of analysis and interpretation of

financial statements. Ratio analysis helps in ma!ing decisions as it helps establishing

relationship bet een various ratios and interpret thereon. Ratio analysis helps analysts to

ma!e quantitative judgment about the financial position and performance of the firm. Ratio

analysis involves follo ing steps5

). Relevant data selection from the financial statements related to the objectives of the

analysis.2. 6alculation of required ratios from the data and presenting them either in pure ratio

form or in percentage.3. 6omparison of derived different ratios ith5

i. The ratio of the same concern over a period of years to !no up ard or do n ard trend or

static position to help in estimating the future, or

ii. The ratios of another firm in same line, or

iii. The ratios of projected financial statements, or

iv. The ratios of industry average, or

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v. The ratios bet een the departments of the same concern assessing either the financial

position or the profitability or both.

IMPORTANCE OR OBJECTIVES OF RATIO ANALYSIS:

7ith this, e can analy&e business's financial position. 7e also chec! company's short term

and long term solvency ith ratio analysis. ollo ing are the main advantages of ratio

analysis.

). Aid to measure 8eneral efficiency2. Aid in comparison of financial data3. inancial forecasting9. Aid in planning:. acilitate decision ma!ing

;. To test profitability. Ta!ing investment decision) . 1ffective tool for management)). Act as a good communication)2. To achieve desired co-ordination

?elpful in "ecision @a!ing

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All our financial statements are made for providing information. ut this information is not

helpful for decision ma!ing because financial statements provide only ra information.

7hen e calculate different ratios in ratio analysis, at that time, e get useful information.

?elpful in 6ommunication

Ratio analyses are more important from communication point of vie . Suppose, e have to

appoint ne sales agents for our company, at that time, e can communicate them by using

our company's sales and profit related ratios. There is no need of hi-tech for understanding

the meaning of any specific ratio. or e ample, our gross profit in 2 ) is 2;.; and in 2 )),

it is 2=.:: . y just telling this ratio, e can understand hether our company is gro ing or

falling.

?elpful in 6o-ordination

Bo company has all the strength points. 6ompany's financial results sho some strength

points and some ea! points. Ratio analysis can create co-ordination bet een strength points

and ea! points.

?elps in 6ontrol

Ratio analysis can also use for controlling our business. 7e can easily create the standard of

each financial item of our balance sheet and profit and loss account. %n this basis, e can

also calculate standard ratios. y comparing standard ratios ith actual accounting ratios, e

can find variance. This variance may be favorable and unfavorable. %n this basis, e can

control our business from financial point of vie .

LIMITATIONS OF RATIO ANALYSIS:

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7e could not ma!e standards of all ratios. or e ample, e cannot tell hat is rule of

them of our net profit ratio because there are lots of factors affect it. +n the lac! of

adequate standards of ratios, e cannot give e act comment on the basis of ratio analysis.

+B?1R1BT C+@+TAT+%B % +BAB6+AC A66%DBT+B8Ratio analysis is just li!e simplification of financial accounting data. ut there are lots of

limitations of financial accounting. All these limitation ill be absorbed by ratios. This is

the one of the important limitation of ratio. + can say if base is not good, everything ill

be rong. +f there is small portion of poison in mil!, its effect ill be in everything hat

you ill ma!e.

/1RS%BAC +ASThis is reality, + sa many 6As ho aste their time to optimi&e different ratios by

changing the project financial statements figures for ma!ing attractive projects. All these

activities are done for getting loan. So, this ill ma!e the dra bac! of ratio analysis.

6?AB81S % A66%DBT+B8 /R%61"DR1S+f accounting procedures ill changeG our accounting ratio ill be changed. At that time,

e cannot compare our current year ratios ith our past year ratios. or e ample, in past

year, e had used C+ % but current yearG e are using + % for inventory valuation. "ue

to this, figures of closing stoc! ill be different. %n this basis, if e have calculated

current ratio, it ill not be comparable ith past current ratio.

RAT+%S AR1 B%T SD ST+TDT1 % +BAB6+AC STAT1@1BTSRatio analysis is important part of financial statements analysis. +t can never become a

substitute of financial statements. 7e just use it ith cash flo analysis, fund flo

analysis and other analysis.

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7R%B8 +BT1R/R1TAT+%Bor e plaining the effect on company's position ith ratios, there is big need of

e perience. 7rong interpretation ill be helpful for rong decisions. So, it is limitation

of ratio analysis that it does not e plain all the facts, it has to e plain. or a ne accounts

manager, it may be difficult.

INTERESTED PARTIES OF RATIOS:

Ratio analysis of firmsH financial statement is of interest to a number of parties, mainly

management, creditors, share holders and investors etc. /arties interested and application of

different ratios in short, are given belo 5

/arties interested Application of Ratio To use

) @anagement a %perating Ratio /R% +TA +C+TI b Return on capital employedc Stoc! turnover ratiod "ebtors turnover ratioe Solvency Ratio

2 6reditors, @oney

lenders and +nvestors

a 6urrent ratio C+FD+"+TI

%R S%CJ1B6I

b Solvency ratioc 6reditors turnover ratio

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d i ed asset ratioe Asset cover f +nterest cover or "ebt service ratio

3 Share holders,6reditors, 1mployees,8overnment

a Return on share holders fund b 6apital gearing ratio 6A/+TAC

STRD6TDR1c "ividend cover ratiod Iield rate ratioe /roprietary ratiof "ividend rate ratiog Assets cover of share

ACCOUNTING RATIOS:

There are several ratios hich can be computed in a firm for various purposes. +n vie of the

requirements of the various users of ratios e may classify them into the follo ing five

important categories 5-$

3. Activity ratios5Stoc! turnover 7or!ing capital turnover

i ed asset turnover

6apital turnover

9. Ciquidity ratios56urrent ratioAcid Test ratio"ebt 1quity ratioCong Term "ebt 1quity

Ratio:. Ceverage ratio5

). /rofitability ratios5

8ross profit ratio Bet profit ratio

1 pense ratio%perating profit ratioReturn on capital

employed ratio

2. 1arning ratios5"ividend ratio1arning per share/rice earning ratio/ay out ratio1arning po er ratio

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LIQUIDITY RATIO

1. CURRENT RATIO :

The current ratio is used to evaluate the liquidity, or ability to meet short term debt. ?igh

current ratio are needed for companies that have difficulty borro ing on short term

notice. The generally acceptable current ratio is 25). The minimum acceptable current

ratio is )5).

Curre ! R"!#$ % Curre ! A&&e!&'Curre ! L#"(#)#!#e&.

*. A+#, Te&! R"!#$ :

A stringent test that indicates hether a firm has enough short-term assets to cover its

immediate liabilities ithout selling inventory. The acid-test ratio is far more strenuous

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than the or!ing capital ratio, primarily because the or!ing capital ratio allo s for the

inclusion of inventory assets.

A+#, Te&! R"!#$ % Curre ! A&&e!& S!$+ Pre/"#, E0/e &e&' Curre ! L#"(#)#!#e&

B" O er,r"2!.

3. De(! E4u#!5 R"!#$ :-

The debt to equity ratio is a financial, liquidity ratio that compares a company's total debt

to total equity. The debt to equity ratio sho s the percentage of company financing that

comes from creditors and investors. A higher debt to equity ratio indicates that more

creditor financing #ban! loans$ is used than investor financing #shareholders$.

De(! E4u#!5 R"!#$ % T$!") L#"(#)#!#e&'T$!") E4u#!5.

6. L$ 7 Ter8 De(! E4u#!5 R"!#$:-

C%B8-T1R@ "1 T T% 1FD+TI e presses the relationship bet een long-term capital

contributions of creditors as related to that contributed by o ners #investors$. As opposed

to "1 T T% 1FD+TI, Cong-Term "ebt to 1quity e presses the degree of protection

provided by the o ners for the long-term creditors.

L$ 7 Ter8 De(! E4u#!5 R"!#$ % L$ 7 Ter8 L#"(#)#!#e&' S!$+ 9$),er& E4u#!5.

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LIQUIDITY ANALYSIS OF SELECTED INDIAN COMPANIES

1. CURRENT RATIO OF 1 COMPANIES FOR THE YEAR * 13-16

Curre ! R"!#$ % Curre ! A&&e!&Curre ! L#"(#)#!#e&

; ---- in Rs. Cr. -----)

T"!" M$!$r& % ?1

1>= 63

% .>1 : 1

A8(u@"Ce8e ! %6=?11

3= ?%1.* : 1

B"@"@ "u!$C$8/" 5

% 6= 6? = ?*

% .? : 1

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M"ru!#Su u #

% = > =? *

% .??: 1

Te+9M"9# ,r"

% 1 =36 6=

% .?1 : 1

S9reeCe8e !

% *=13* 1= 3<

%1.3? : 1

B"@"@F# " +e

% *6=3 6=>

% .** : 1

T"!" S!ee) % 13=> 6 *3= >>

% . : 1

COMMENTS :-

6urrent ratio reflects short term financial position of the company. The standard

current ratio is 25). The 6urrent ratio of B"@"@ F# " +e ; .** is better of all

other companies. The position of current assets of ajaj inance is satisfactory

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as compare to above companies to meet the current obligation out of its current

assets.

*. QUIC RATIO OF 1 COMPANIES FOR THE YEAR * 13-16

L#4u#, R"!#$ ' Qu#+ R"!#$ 'A+#, Te&! R"!#$ % L#4u#, A&&e!& $r Qu#+ A&&e!& Curre ! L#"(#)#!#e& ; ---- in Rs. Cr. -----)

T"!" M$!$r& % =?1 1>= 63

% .3> : 1

A8(u@"Ce8e ! %3= : 1

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M"ru!#Su u #

% =3 =? 3

% .> : 1

Te+9M"9# ,r"

% 1 =36 6= : 1

B"@"@F# " +e

% *6=3 6=>

% .** : 1

T"!" S!ee) % = *3= >>

% .3* : 1

COMMENTS:-

Ciquid ratio is designed to indicate the liquid financial position of an enterprise. The

purpose of liquid ratio is to measures the immediate solvency of the business and indicates

the availability of liquid cash to meet its immediate commitment. Thus the liquidity of

B"@"@ F# " +e ; .** is more than other companies.

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3. DEBT EQUITY RATIO OF 1 COMPANIES FOR THE YEAR * 13-16

De(! E4u#!5 R"!#$ % T$!") L#"(#)#!#e& T$!") E4u#!5

; ---- in Rs. Cr. -----)

T"!" M$!$r& % 16= 1 1 : 1

A8(u@"

Ce8e ! % 1< 1 =1 6

% . 3: 1

B"@"@ "u!$C$8/" 5

% <

% . : 1

M"ru!#Su u #

% 1=>? * =< ?

% . ?: 1

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Te+9M"9# ,r"

%

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often results in volatile earnings. Thus the "ebt 1quity Ratio of B"@"@ F# " +e

;6. is more than other companies.

1. LONG TERM DEBT EQUITY RATIO OF 1 COMPANIES FOR THE YEAR

* 13-16

L$ 7 Ter8 De(! E4u#!5 R"!#$ % L$ 7 Ter8 L#"(#)#!#e& S!$+ 9$),er& E4u#!5 ; ---- in Rs. Cr. -----)

T"!" M$!$r& % 16= 1 1 : 1

A8(u@"Ce8e ! % 1<

1 =1 6% . 3: 1

B"@"@ "u!$C$8/" 5

% <

% . : 1

M"ru!# % 1=>? % . ?: 1

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Su u # * =< ?

Te+9M"9# ,r"

%