Ratio Analysis Project_ Jaya_final

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A STUDY ON RATIO ANALYSIS IN

LUCAS INDIAN SERVICE LIMITED, CHENNAI

Project report submitted to the BHARATHIDASAN UNIVERSITY, Trichy

In partial fulfillment of the requirement for the award of the degree of

MASTER OF BUSINESS ADMINISTRATION

By

Jaya.S

Reg.No: 10290590

Under the guidance of

Prof. N. Rajesh, M.Com., M.phil., M.B.A., PGDCA.,

Lecturer, Bharath Institute of Management

Department of Management Studies

BHARATH COLLEGE OF SCIENCE AND MANAGEMENT

(Affiliated to Bharathidasan University)

THANJAVUR 613 005

AUGUST 2011

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DECLARATION

I hereby declare that the project entitled, A STUDY ON

RATIO ANALYSIS IN

LUCAS INDIAN SERVICE LIMITED, CHENNAI. Submitted to theBharathidasan University,

Trichy in partial fulfillment for the award of the degree ofMaster of

Business

Administration is my original work and no part of this project has been

submitted for the

award of any other Degree, Diploma, Fellowship or other similar title.

Signature of the Candidate

Place : Thanjavur

Date :

(JAYA.S)

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Acknowledgement

First of all, I thank the Almighty for being instrumental to thesuccessful completion of this project.

Then, I obliged to thank my parents who always care about me

and scarify for me. I hope, everything is possible in my life with their

blessings.

I express my honorable salute to Prof. N. Ganesan, founder,

Bharath Group of Institutions.

I also wish my heartfelt thanks to Mrs. Punitha Ganesan,

Secretary, Bharath Group of Institutions.

I also wish my special thanks to Mr. Balasundaram, Chairman,

Bharath Group of Institutions.

I thank Prof. S. Sivapunniyam, Prinicipal, Bharath College of

Science and Management who by virtue of his profound knowledge and vast

experience has really been a source of inspiration and excellent support to

me in this venture.

I extend my thanks to Prof. A. Ramachandran, Dean, Bharath

College of Science and Management.

I Convey my regards to Dr. R.Rajasekaran, Director, M.Com.,

M.phil., B.Ed, ph.D for his support and whole-hearted encouragement for

completing this project report suceessfully.

I extent my sincere gratitude to Prof. N. Rajesh, M.Com., M.phil.,

M.B.A., PGDCA., Lecturer, Bharath Institute of Management for his valuableguidance.

I extent my thanks to the Faculty Members of Department of

Management Studies, Bharath Institute of Management for their useful

suggestion and assistance for this project work.

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I would like to thank Mr.K. Suresh Babu, Vice President

Finance & Mr. S. Ganesh Kumar, Deputy Manager Accounts, LUCAS

INDIAN SERVICE LIMITED, CHENNAI. For having given me this privilege of

working under him and completing this study.

Finally, it gives me great pleasure to acknowledge the efforts of allthose who have helped me in completing this project.

(JAYA.S)

TABLE OF CONTENTS

ChapterNo.

Title PgNo

1 Introduction 52 Research Methodology, Review of Literature and

Concepts Used8

3 Company profile 15

4 Ratio analysis 215 Balance sheet 256 Types of ratio 307 Objectives 488 Importance 509 Advantages & Limitations 5210 Conclusion 5511 Bibliography 57

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Chapter 1

Introduction

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Chapter 1

Introduction

Financial ratios are widely used for modeling purposes both by

practitioners and researchers. The firm involves many interested

parties, like the owners, management, personnel, customers,

suppliers, competitors, regulatory agencies, and academics, each

having their views in applying financial statement analysis in their

evaluations. Practitioners use financial ratios, for instance, to forecast

the future success of companies, while the researchers' main interest

has been to develop models exploiting these ratios. Many distinctareas of research involving financial ratios can be discerned.

Historically one can observe several major themes in the financial

analysis literature. There is overlapping in the observable themes, and

they do not necessarily coincide with what theoretically might be the

best founded areas.

Financial statements are those statements which provide information

about profitability and financial position of a business. It includes two

statements, i.e., profit & loss a/c or income statement and balancesheet or position statement.

The income statement presents the summary of the income earned

and the expenses incurred during a financial year. Position statement

presents the financial position of the business at the end of the year.

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Before understanding the meaning of analysis of financial statements,

it is necessary to understand the meaning of analysis and financial

statements.

Analysis means establishing a meaningful relationship between

various items of the two financial statements with each other in such a

way that a conclusion is drawn. By financial statements, we mean two

statements- (1) profit & loss a/c (2) balance sheet. These are prepared

at the end of a given period of time. They are indicators of profitability

and financial soundness of the business concern.

Thus, analysis of financial statements means establishing meaningful

relationship between various items of the two financial statements,

i.e., income statement and position statement

Parties interested in analysis of financial statements :

Analysis of financial statement has become very significant due to

widespread interest of various parties in the financial result of a business

unit. The various persons interested in the analysis of financial statements

are:-

Short- term creditorsThey are interested in knowing whether the amounts owing to them will bepaid as and when fall due for payment or not.

Long term creditorsThey are interested in knowing whether the principal amount and interest

thereon will be paid on time or not.

ShareholdersThey are interested in profitability, return and capital appreciation.

ManagementThe management is interested in the financial position and performance of

the enterprise as a whole and of its various divisions.

Trade unions

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They are interested in financial statements for negotiating the wages or

salaries or bonus agreement with management.

Taxation authoritiesThese authorities are interested in financial statements for determining the

tax liability.

ResearchersThey are interested in the financial statements in undertaking research in

business affairs and practices.

EmployeesThey are interested as it enables them to justify their demands for bonus and

increase in remuneration.

Chapter 2

ResearchMethodology

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, Review ofLiterature

andConcepts

Used Research Methodology, Review ofLiterature and

Concepts Used

Research Methodology:

This part narrates the sources of data, research design, period of study, tools

of analysis and limitation of study.

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Sources of Data :

This research study is based on secondary data, means data that are alreadyavailable i.e. the data which have been already collected and analyzed bysome one else.

Secondary data are used for the study of Ratio analysis of this company. Tocollect the data I have refer Company annual report, annual magazine, last5 year balance sheet, and cash flow statements.

Secondary Data Sources :

Internal Sources - Procedure Manuals , Annual Reports, Other Reports

External Sources - World Wide Web, Reference Books

Another source of secondary data was in the form of reference books and

Literature Review published by third parties but available to the public. The

World Wide Web (Internet) was also an important source of information

related to inventory management.

Research Design:

A research design is the specification of method and procedure for accruingthe information needed. It is overall operational pattern of frame work ofproject that stipulates what information is to be collected for source by thatprocedures.Descriptive Research design is appropriate for this study.

Descriptive study is used to study the situation. This study helps to describe

the situation. A detail descriptive about present and past situation can be

found out by the descriptive study. In this involves the analysis of the

situation using the secondary data.

Problem Statement:

How to measure the financial position of the company with the help of ratioanalysis?

Objective of Study:

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To know the financial condition of the company.

Interpret the financial statement so that the strength and weakness of

a firm

Historical performance and current financial condition can be

determined.

To analyze the liquidity position of the company.

Throw light on a long term solvency of a firm.

REVIEW OF LITERATURE :

Ratio-analysis is a concept or technique which is as old as accounting

concept. Financial analysis is a scientific tool. It has assumed important role

as a tool for appraising the real worth of an enterprise, its performance

during a period of time and its pit falls. Financial analysis is a vital apparatusfor the interpretation of financial statements. It also helps to find out any

cross-sectional and time series linkages between various ratios.

Unlike in the past when security was considered to be sufficient

consideration for banks and financial institutions to grant loans and

advances, nowadays the entire lending is need-based and the emphasis is on

the financial viability of a proposal and not only on security alone. Further all

business decision contains an element of risk. The risk is more in the case of

decisions relating to credits. Ratio analysis and other quantitative techniques

facilitate assessment of this risk.

Trend ratio involve a comparison of the ratio of a firm over time, that is

present ratio are compared with past ratio for the same firm. The comparison

of the profitability of a firm, say year 1 though 5 is an illustration of a trend

ratio. Trend ratio indicate the direction of change in the performance-

improvement, deterioration or constancy-over the years.

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The Indian Automobile Industry :

In this section, we trace the growth in the Indian auto-component sector anddescribe the market, cost structure and export performance. The Indianauto-component industrys annual turnover was US $6.73 billion. This is

miniscule compared to the global automotive components industry turnoverof US $737 billion. However, at a compounded annual growth rate of 20-25%, the growth in Indias auto-component exports is significantly higher thanthat of the domestic market in India (10-14%) and markets elsewhere.

A very visible outcome of the transformation of the auto-component sector istherapid growth in cars exported from India. Indian auto OEMs exported13.1% of their production up from 3.9% The significant growth of exportsfrom India signals that the auto sector is rapidly becoming globallycompetitive,

1 In many cases, the delivered retail price of a car in India is 50% of the pricein China

2 The data for this section has been collected from CMIE Prowess and ICRAparticularly in the small car segment.

The auto-component industry that helped to enable this transformationcaters to three markets: (1) Original equipment manufacturers (OEM) orvehicle manufacturers, who comprise 25% of the total demand. (2) Thereplacement market that forms 65% of the total demand. (3) Export marketthat comprises primarily exports to international Tier I suppliers and

constitutes 10% of the total demand. The auto-component industry can alsobe subdivided into six segments: (1) Engine Parts. (2) Electrical Parts. (3)Drive Transmission & Steering Parts. (4) Suspension & Braking Parts. (5)Equipment. (6) Others.

The Automotive industry in Indiais one of the largest in the world and one ofthe fastest growing globally. India manufactures over 17.5 million vehicles(including 2 wheeled and 4 wheeled) and exports about 2.33 million everyyear.It is the world's second largest manufacturer of motorcycles, withannual sales exceeding 8.5 million in 2009. India's passenger car andcommercial vehicle manufacturing industry is the seventh largest in the

world, with an annual production of more than 3.7 million units in 2010.[3]According to recent reports, India is set to overtake Brazil to become thesixth largest passenger vehicle producer in the world, growing 16-18 percent to sell around three million units in the course of 2011-12.[4] In 2009,India emerged as Asia's fourth largest exporter of passenger cars, behindJapan, South Korea, and Thailand.

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Exports

Automobile Exports registered a growth of 22.30 percent during the currentfinancial year.

The growth was led by two wheelers segment which grew at 32.31 percent.

Commercial vehicles and Passenger Vehicles exports grew by 19.10 percentand 9.37 percent respectively. Exports of Three Wheelers segment declined

by 1.85 percent

Key statistics :

The production of automobiles has greatly increased in the lastdecade. It passed the 2 million mark during 2010-2011 and hasmore than doubled since 1999.

Year CarProduction

%

Change Commercial

%Cha

nge

TotalVehic

les

Prodn. % Change

2010 2,814,58429.39 722,199

54.86

3,536,783 33.89

2009 2,175,22017.83 466,330

-4.1

2,641,550 13.25

2008 1,846,0517.74 486,277

-9.99

2,332,328 3.35

2007 1,713,47916.33 540,250

-

1.2

2,253,999 10.39

2006 1,473,00016.53 546,808

50.74

2,019,808 19.36

2005 1,264,0007.27 362, 755 9

1,628,755 7.22

2004 1,178,354 29. 332,803 31 1,511 23.13

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78.25 ,157

2003 907,96828.98 253,555

32.86

1,161,523 22.96

2002 703,9487.55 190,848

19.24

894796 8.96

2001 654,55726.37 160,054

-43.52

814611 1.62

2000 517,957

-2.85 283,403

-0.58

801360 -2.1

1999 533,149 285,044818193

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KEY DEVELOPMENTS FOR LUCAS INDIAN SERVICE

LIMITED

LUCAS Indian Service Limited is a subsidiary of Lucas-TVS Limited. LUCAS

Indian Service Limited tied up with Top1 Oil Products Company to introducethe foreign firm's products in India. The company has been appointed as the

distributor for Top1 brands in India, has launched lubricants for the

motorcycles, passenger cars and heavy duty diesel vehicles segments. Top1

products for motorcycles will be available in the range of INR 285 to INR 750

per litre, while those for passenger cars are priced between INR 285 and INR

1,200 for every litre. The per litre cost of heavy duty diesel vehicles'

lubricants will be INR 310 to INR 370.

Chapter 3Company

Profile

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Main Markets: North America

South America

Western Europe

Eastern Europe

Eastern AsiaSoutheast Asia

Mid East Africa

Oceania

Turnover (as on 31st

March 2010 , Amountin Thousands) 2312644

Foreign Exchange Earnings Rs 3.64 Lakhs

Total Sales (For theyear 2010, Amount inLakhs) 22223

Website: WWW.lucas-Service.in

About Lucas Indian Service LimitedAbout Lucas Indian Service Limited :

Lucas Indian Service (LIS) established in 1930, is a

specialist organization in sales and service of "Lucas-TVS" auto electricals

and "Delphi-TVS" diesel fuel injection equipment. LIS also manufactures

automotive products like ignition coils and solenoid switches in Chennai

which are marketed under the brand name "Lucas". LIS distributes "LISPART"

range of auto parts and "Lucas" range of automotive batteries through tie-

ups with leading manufacturers. Besides manufacturing, sales and

distribution, LIS offers servicing and training in auto electrical and diesel fuel

injection equipment.

The brand portfolio of LIS consists of leading product

brands - "Lucas-TVS" Auto Electricals, "Delphi-TVS" Diesel Fuel InjectionEquipment, "LISPART" Auto Parts, and "Lucas" Automotive batteries, Ignition

Coils & 4ST Switches. LIS also promotes preventive maintanance services

under the brand name

Manufacturing :Manufacturing :Page 18 of62
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For over five decades, LIS has been manufacturing ignition

coils for petrol driven vehicles and enjoys a significant market share with

major car manufacturers in the country. LIS has enhanced the production

line by adding solenoid switches, which have been well accepted as an

original fitment by leading automobile manufacturers.

LIS also exports ignition coils to the Middle East, SriLanka,

Turkey, Singapore and Indonesia.

LIS is also a major share holder in a joint venture

company "India Nippon Electricals Limited". The company manufactures

electronic ignition systems for two wheelers in collaboration with Kokusan

Denki, of Hitachi Group, Japan.

Distribution :LIS extensively covers the country through its 4 regional

offices located at the main metros and 20 branches equipped with

warehousing facilities. The widespread distribution network of LIS reaches

650 towns and cities. LIS has established a network of over 1500 dealers.

The company also maintains close bonds with a large number of institutional

clients, State Transport Undertakings, Coal fields, Public Sector Undertakings

and Defence Establishments.

ServiceLIS has over a period of eight decades, built expertise in

servicing auto electrical system and diesel fuel injection equipment. In

addition to its 40 company owned workshops located at all major branches,

LIS has established a dedicated network of over 500 service dealerships.

Comprehensive training provided to service dealers

contributes to the success of LIS in the industry. Specialized training in faultdiagnosis and repairs is provided on a continuous basis. Training is also

extended to the dealers of vehicle manufacturers, state transport

undertakings, fleet operators, defence personnel and other such institutional

clients. LIS has developed and made available a wide range of tools and test

equipment for effectively meeting the service requirements. LIS has

introduced a mobile workshop facility designed to handle both auto electrical

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and diesel fuel injection system repairs. The mobile workshop is also

equipped with training facilities.

Customer Segments :

Sale and Services Dealers

State Transport Undertaking

Fleet operators

Vehicles Manufacturers

Defence Establishments

Public and Private Sector Industries

Coal Fields

Government Projects

Exports

LIS is one of the pioneers in introducing a solution based

approach, which focuses on preventing breakdowns through regular

maintenance checks, for leading brands of passenger cars. This preventive

service concept branded as is designed to optimize vehicle performance and

prevent breakdowns.

Products :

Products

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Lucas-TVS

DELPHI-TVS

LucasBatteries LISPART

Inverters

Lucasinverter/automoti

vebatteries

IgnitionCoils &4st Coils

Lucas Care Benefits & Features :Lucas Indian Service Limited (a subsidary

of Lucas TVS) is a specialist organization, providing solutions for auto

electrical and diesel fuel injection equipment.

With over seven decades of expertise in the

automobile industry, They know how important your car is to you. Lucas

Indian Service Limited provides you wih a unique preventive maintenance

program "Lucas Care" which optimizes your car's performance and helps toprevent breakdowns.

Future Plans :

Lucas Indian Services, a unit of Lucas-TVS Group, has tied-up with the US-based

TOP1 Oil Products Company to market high-end automobile and synthetic blend

lubricants in India.

"Lucas Indian Services will be our marketing partner in India. We see huge potential

in this market," said Frank Ryan, vice-president for sales and marketing of TOP1 Oil

Products Company.

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Currently, Indian lubricant market is estimated to be worth nearly Rs 25,000 crore,

over Rs 2,000 crore of which is for high quality synthetic and semi-synthetic

products.

"Entry of TOP1 will further boost the growth of premium lubricants market in India.

The company already has a strong presence in the US and other western countriesand we are targeting for the same in India also," said Abbi.

VITAL INFORMATION ABOUT COMPANY :

BOARD OFDIRECTORS T K BALAJI

S NARAYANAN

K SESHADRIJ S CHOPRA

ARVIND BALAJI - Whole-time Director

PRESIDENT SANDEEP ABBI

VICE PRESIDENT -FINANCE K SURESH BABU

COMPANYSECRETARY S RENGARAJAN

AUDITORS Messrs Delolite Haskins & Sells

BANKERS Bank of Baroda

REGISTERED OFFICE 11, Patullos Road, Chennai 600 002

BRANCHES AT

Ahmedabad, Bangaluru, Bhubaneshwar, ChennaiGhaziabad, Goa, Gurgaon, Guwahati, Hyderabad,IndoreJaipur,Jalandhar, Kolkata, Lucknow, Mumbai,

Nagpur, New Delhi, Patna, Pune, Raipur andRanchi

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Chapter 4

Ratio

Analysis

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Ratio Analysis

Meaning of Ratio:- A ratio is simple arithmetical expression of the

relationship of one number to another. It may be defined as the indicated

quotient of two mathematical expressions.

According to Accountants Handbook by Wixon, Kell and Bedford, a ratio is

an expression of the quantitative relationship between two numbers.

Ratio Analysis:- Ratio analysis is the process of determining and

presenting the relationship of items and group of items in the statements.

According to Batty J. Management Accounting Ratio can assist management

in its basic functions of forecasting, planning coordination, control and

communication.

It is helpful to know about the liquidity, solvency, capital structure andprofitability of an organization. It is helpful tool to aid in applying judgement,

otherwise complex situations.

Ratio analysis can represent following three methods.

Ratio may be expressed in the following three ways :

Pure Ratio or Simple Ratio :- It is expressed by the simple

division of one number by another. For example , if the current

assets of a business are Rs. 200000 and its current liabilities are Rs.

100000, the ratio of Current assets to current liabilities will be 2:1.

Rate or So Many Times :- In this type , it is calculated how

many times a figure is, in comparison to another figure. For

example , if a firms credit sales during the year are Rs. 200000 and

its debtors at the end of the year are Rs. 40000 , its Debtors

Turnover Ratio is 200000/40000 = 5 times. It shows that the credit

sales are 5 times in comparison to debtors.

Percentage :- In this type, the relation between two figures is

expressed in hundredth. For example, if a firms capital isRs.1000000 and its profit is Rs.200000 the ratio of profit capital, in

term of percentage, is 200000/1000000*100 = 20%

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Ratio Analysis enables the business owner/manager to

spot trends in a business and to compare its performance and condition with

the average performance of similar businesses in the same industry. To do

this compare your ratios with the average of businesses similar to yours and

compare your own ratios for several successive years, watching especially

for any unfavorable trends that may be starting. Ratio analysis may provide

the all-important early warning indications that allow you to solve your

business problems before your business is destroyed by them.

The Balance Sheet and the Statement of Income are essential, but they are

only the starting point for successful financial management. Apply Ratio

Analysis to Financial Statements to analyze the success, failure, and

progress of your business.

Importance of financial statement analysis in an organization.

In our money-oriented economy, Finance may be defined as provision of

money at the time it is needed. To everyone responsible for provision of

funds, it is problem of securing importance to so adjust his resources as to

provide for a regular outflow of expenditure in face of an irregular inflow of

income..

1. The profit and loss account (Income Statement).

2. The balance sheet

In companies, these are the two statements that have been prescribed andtheir contents have been also been laid down by law in most countries

including India.

There has been increasing emphasis on

Giving information to the shareholder in such a manner as to

enable them to grasp it easily.

Giving much more information e.g. funds flow statement, again

with a view to facilitating easy understanding and to place a year

results in perspective through comparison with post year results.

The directors report being quite comprehensive to cover the

factors that have been operating and are likely to operate in the

near future as regards to the various functions of production,

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marketing, finance, labour, government policies, environment in

general.

Financial statements are being made use of increasingly by parties like Bank,

Governments, Institutions, and Financial Analysis etc. The statement should

be sufficiently informative so as to serve as wide a curia as possible.

The financial statement is prepared by accounts based on the activities that

take place in production and non-production wings in a factory. The accounts

convert activities in monetary terms to the help know the position.

Uses o f Financial Statement Analysis :

The main uses of accounting statements for; -

Executives : - To formulate policies.

Bankers : - To establish basis for Granting Loans.

Institutions \ Auditors : - To extend Credit facility to business.

Investors : - To assess the prospects of the business and to know

whether they can get a good return on their investment.

Accountants : - To study the statement for comparative purposes.

Government Agencies: - To study from an angle of tax collection duty

levee etc.

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Balance Sheet :

The Balance sheet shows the financial status of a business. The registered

companies are to follow part 1 of schedule VI of companys \ act 1956 forrecording Assets and Liabilities in the Balance Sheet.

Format of Balance Sheet as prescribed by companies Act.

Liabilities Assets

Share Capital Fixed Assets

Reserve &Surplus Investments

Secured loans Current Assets, Loan

Unsecured Loans Advances

Current Liabilities & provision Misc. Expenditures &Losses

Liabilities: -

Liabilities defined very broadly represent what the business entity owes to

other.

Share capital: -

There are two type of share capital: -

Equity Capital

Preference Capital

Equity Capital represents the contribution of the owners of the firm.

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Preference capital represents the contribution of preference shareholders

and the dividend rate payable on it is fixed.

Reserve & Surplus: -

Reserve & Surplus are profits, which have been retained by the firmreserves, are two types, revenue Reserve and Capital Reserve. Revenue

Reserve represents accumulated retained earnings from the profits of normal

business operations.

Capital reserve arises out of gains, which are not related to normal business

operations. Surplus is the balance in the profit and loss account, which has

not been appropriated to any particular reserve account. Reserve and

surplus along with equity capital represent Owner s equity.

Secured Loans: -

These denote borrowings of the firm against which specific securities have

been provided. The important components of secured loans are debentures,

loans from financial institutions and loans from commercial banks.

Unsecured Loans: -

These are borrowing of the firm against which no specific security has been

provided. The major components of unsecured loans are fixed deposits,

loans and advances from Promoters, Inter-Corporate borrowings and

unsecured loans from Banks.

Current Liabilities and Provision: -

Current Liabilities and Provision as per the classification under the

companies Act, Consists of the Following amounts due to the suppliers of

goods and services brought on credit, Advance payments received, accrued

expenses. Unclaimed dividends, Provisions for taxed, Dividends, Gratuity,Pension etc.

Assets: -

Assets have been acquired at a specific monetary cost by the firm for the

conduct of its operation.

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Fixed Assets: -

These assets have two characteristics. They are acquired for use over

relatively long

period for carrying on the operations of the firm and they are ordinarily not

meant for resale.

Examples for fixed assets are land, building, plant, Machinery, patent &

Copyrights.

Investments: -

These are financial securities owned by the firm. Some

investments represent long-term commitments of funds. Usually those are

the equity shares of other firms held for income and control purpose. Other

investments are short term in nature and are rightly classified under current

assets for managerial purpose.

Current Assets, Loans and Advances:

This category consists of cash and other resources, which get converted into

cash during the operating cycle of the firm current assets, are held for a

short period of time as against fixed assets, which are held for relatively

longer periods. The major component of current Assets are: cash, debtors,

inventories, loans and advances and pre-paid expenses.

Miscellaneous expenditure and losses: -

The consist of two items miscellaneous expenditure and losses

miscellaneous expenditure represent outlays such as preliminary expenses

and pre-operative expenses, which outlays such as preliminary expenses

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which have not written off loss is shown on the right hand side (Assets side)

of the balance sheet

BALANCE SHEET (Rs inLakhs)

S.No

As at March2010

As at March2009

SOURCES OF FUNDS

1) Shareholder's Funds:

A) Capital 1 400.00 400.00

B) Reserves and Surplus 2 7526.8 6873.817926.

80 7273.

81

2)Loan Funds

A)Secured Loans 3 31.54 - B)Un Secured Loans 4 567.09 501.71

598.63 501.71

Application of Funds8525.

43 7775.

52

1)Fixed Assets 5

A)Gross Block 3876.23 3342.13

B)Less : Depreciation 1507.49 1358.38

C)Net Block 2368.74 1983.75

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D)Capital Work in Progress 0.45 151.23

(Including Capital Advances)2369.

19 2134.

98

2)Investments 6

4324.

14

2535.

473)Deferred Tax Asset (Net) 23.14 15.06

4)Current Assets, Loans andAdvances

A)Inventories 7 3396.04 2955.37

B)Sundry Debtors 8 1864.56 2296.49

C)Cash and Bank Balances 9 689.09 776.64

D)Loans and Advances 10 385.16 369.9

6334.79 6398.4Less : Current Liabilities &

ProvisionsA)Liabilities 11 4245.99 3244.14

B)Provisions 12 280.11 64.25

4526.10 3308.39

Net Current Assets1808.

69 3090.

01

8525.

43 7775.

52Significant AccountingPolicies

Notes on accounts

S.No Denotes Schedule Number

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Chapter 6

Types of

Ratio

Types of Ratio

Ratio may be classified into the four categories as follows:

A. Liquidity Ratio

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a. Current Ratio

b. Quick Ratio or Acid Test Ratio

B. Leverage or Capital Structure Ratio

a. Debt Equity Ratio

b. Debt to Total Fund Ratio

c. Proprietary Ratio

d. Fixed Assets to Proprietors Fund Ratio

e. Capital Gearing Ratio

f. Interest Coverage Ratio

C. Activity Ratio or Turnover Ratio

a. Stock Turnover Ratio

b. Debtors or Receivables Turnover Ratio

c. Average Collection Period

d. Creditors or Payables Turnover Ratio

e. Average Payment Period

f. Fixed Assets Turnover Ratio

g. Working Capital Turnover Ratio

D. Profitability Ratio or Income Ratio

(A) Profitability Ratio based on Sales :

a. Gross Profit Ratio

b. Net Profit Ratio

c. Operating Ratio

d. Expenses Ratio

(B)Profitability Ratio Based on Investment :

I. Return on Capital Employed

II. Return on Shareholders Funds :

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a. Return on Total Shareholders Funds

b. Return on Equity Shareholders Funds

c. Earning Per Share

d. Dividend Per Share

e. Dividend Payout Ratio

f. Earning and Dividend Yield

g. Price Earning Ratio

LIQUIDITY RATIO

(A) Liquidity Ratio:-It refers to the ability of the firm to meet its currentliabilities. The liquidity ratio, therefore, are also called Short-term Solvency

Ratio. These ratio are used to assess the short-term financial position of theconcern. They indicate the firms ability to meet its current obligation out ofcurrent resources.

In the words of Saloman J. Flink, Liquidity is the ability of the firms to meetits current obligations as they fall due.

Liquidity ratio include two ratio :-

a. Current Ratio

b. Quick Ratio or Acid Test Ratio

a. Current Ratio:- This ratio explains the relationship between currentassets and current liabilities of a business.

Formula:

Current Ratio = Current Assets/ Current Liabilities

Current Assets:-Current assets includes those assets which can beconverted into cash with in a years time.

Current Assets = Cash in Hand + Cash at Bank + B/R + Short TermInvestment + Debtors(Debtors Provision) + Stock(Stock of Finished Goods

+ Stock of Raw Material + Work in Progress) + Prepaid Expenses.

Current Liabilities :- Current liabilities include those liabilities which arerepayable in a years time.

Current Liabilities = Bank Overdraft + B/P + Creditors + Provision for Taxation + Proposed Dividend + Unclaimed Dividends + OutstandingExpenses + Loans Payable with in a Year.

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Significance :- According to accounting principles, a current ratio of 2:1 issupposed to be an ideal ratio.

It means that current assets of a business should, at least , be twice of itscurrent liabilities. The higher ratio indicates the better liquidity position, thefirm will be able to pay its current liabilities more easily. If the ratio is lessthan 2:1, it indicate lack of liquidity and shortage of working capital.

The biggest drawback of the current ratio is that it is susceptible to windowdressing. This ratio can be improved by an equal decrease in both currentassets and current liabilities.

b. Quick Ratio:- Quick ratio indicates whether the firm is in a position topay its current liabilities with in a month or immediately.

Formula:

Quick Ratio = Liquid Assets/ Current Liabilities

Liquid Assets means those assets, which will yield cash very shortly.

Liquid Assets = Current Assets Stock Prepaid Expenses

Significance :- An ideal quick ratio is said to be 1:1. If it is more, it isconsidered to be better. This ratio is a better test of short-term financialposition of the company.

LEVERAGE OR CAPITAL STRUCTURE RATIO

(B) Leverage or Capital Structure Ratio :-This ratio disclose the firms

ability to meet the interest costs regularly and Long term indebtedness atmaturity.

These ratio include the following ratios :

a. Debt Equity Ratio:- This ratio can be expressed in two ways:

First Approach : According to this approach, this ratio expresses therelationship between long term debts and shareholders fund.

Formula:

Debt Equity Ratio=Long term Loans/Shareholders Funds or Net WorthLong Term Loans:- These refer to long term liabilities which mature afterone year. These include Debentures, Mortgage Loan, Bank Loan, Loan fromFinancial institutions and Public Deposits etc.

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Shareholders Funds :- These include Equity Share Capital, PreferenceShare Capital, Share Premium, General Reserve, Capital Reserve, OtherReserve and Credit Balance of Profit & Loss Account.

Second Approach : According to this approach the ratio is calculated asfollows:-

Formula:

Debt Equity Ratio=External Equities/internal Equities

Debt equity ratio is calculated for using second approach.

Significance :- This Ratio is calculated to assess the ability of the firm tomeet its long term liabilities. Generally, debt equity ratio of is consideredsafe.

If the debt equity ratio is more than that, it shows a rather risky financial

position from the long-term point of view, as it indicates that more and morefunds invested in the business are provided by long-term lenders.

The lower this ratio, the better it is for long-term lenders because they aremore secure in that case. Lower than 2:1 debt equity ratio provides sufficientprotection to long-term lenders.

b. Debt to Total Funds Ratio : This Ratio is a variation of the debt equityratio and gives the same indication as the debt equity ratio. In the ratio, debtis expressed in relation to total funds, i.e., both equity and debt.

Formula:

Debt to Total Funds Ratio = Long-term Loans/Shareholders funds + Long-term Loans

Significance :- Generally, debt to total funds ratio of 0.67:1 (or

67%) is considered satisfactory. In other words, the proportion of long termloans should not be more than 67% of total funds.

A higher ratio indicates a burden of payment of large amount of interestcharges periodically and the repayment of large amount of loans at maturity.Payment of interest may become difficult if profit is reduced. Hence, good

concerns keep the debt to total funds ratio below 67%. The lower ratio isbetter from the long-term solvency point of view.

c. Proprietary Ratio:- This ratio indicates the proportion of total fundsprovide by owners or shareholders.

Formula:

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Proprietary Ratio = Shareholders Funds/Shareholders Funds + Long termloans

Significance :-This ratio should be 33% or more than that. In other words,the proportion of shareholders funds to total funds should be 33% or more.

A higher proprietary ratio is generally treated an indicator of sound financialposition from long-term point of view, because it means that the firm is lessdependent on external sources of finance.

If the ratio is low it indicates that long-term loans are less secured and theyface the risk of losing their money.

d. Fixed Assets to Proprietors Fund Ratio :- This ratio is also know asfixed assets to net worth ratio.

Formula:

Fixed Asset to Proprietors Fund Ratio = Fixed Assets/Proprietors Funds (i.e.,Net Worth)

Significance :- The ratio indicates the extent to which proprietors(Shareholders) funds are sunk into fixed assets. Normally , the purchase offixed assets should be financed by proprietors funds. If this ratio is less than100%, it would mean that proprietors fund are more than fixed assets and apart of working capital is provided by the proprietors. This will indicate thelong-term financial soundness of business.

e. Capital Gearing Ratio:- This ratio establishes a relationship between

equity capital (including all reserves and undistributed profits) and fixed costbearing capital.

Formula: Capital Gearing Ratio = Equity Share Capital+ Reserves + P&LBalance/ Fixed cost Bearing Capita

Whereas, Fixed Cost Bearing Capital = Preference Share Capital +Debentures + Long Term Loan

Significance:- If the amount of fixed cost bearing capital is more than theequity share capital including reserves an undistributed profits), it will becalled high capital gearing and if it is less, it will be called low capital

gearing.

The high gearing will be beneficial to equity shareholders when the rate ofinterest/dividend payable on fixed cost bearing capital is lower than the rateof return on investment in business.

Thus, the main objective of using fixed cost bearing capital is to maximizethe profits available to equity shareholders.

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f. Interest Coverage Ratio:- This ratio is also termed as Debt ServiceRatio. This ratio is calculated as follows:

Formula: Interest Coverage Ratio = Net Profit before charging interest andtax / Fixed Interest Charges

Significance :-This ratio indicates how many times the interest charges arecovered by the profits available to pay interest charges.

This ratio measures the margin of safety for long-term lenders.

This higher the ratio, more secure the lenders is in respect of payment ofinterest regularly. If profit just equals interest, it is an unsafe position for thelender as well as for the company also , as nothing will be left forshareholders.

An interest coverage ratio of 6 or 7 times is considered appropriate.

ACTIVITY RATIO OR TURNOVER RATIO

(C) Activity Ratio or Turnover Ratio :-These ratio are calculated on thebases of cost of sales or sales, therefore, these ratio are also called asTurnover Ratio. Turnover indicates the speed or number of times thecapital employed has been rotated in the process of doing business. Higherturnover ratio indicates the better use of capital or resources and in turn leadto higher profitability.

It includes the following :

a. Stock Turnover Ratio:- This ratio indicates the relationship betweenthe cost of goods during the year and average stock kept during that year.

Formula:

Stock Turnover Ratio = Cost of Goods Sold / Average Stock

Here, Cost of goods sold = Net Sales Gross Profit

Average Stock = Opening Stock + Closing Stock/2

Significance:-This ratio indicates whether stock has been used or not. Itshows the speed with which the stock is rotated into sales or the number of

times the stock is turned into sales during the year.

The higher the ratio, the better it is, since it indicates that stock is sellingquickly. In a business where stock turnover ratio is high, goods can be sold ata low margin of profit and even than the profitability may be quit high.

b. Debtors Turnover Ratio :- This ratio indicates the relationshipbetween credit sales and average debtors during the year :

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Formula:

Debtor Turnover Ratio = Net Credit Sales / Average Debtors + Average B/R

While calculating this ratio, provision for bad and doubtful debts is notdeducted from the debtors, so that it may not give a false impression that

debtors are collected quickly.

Significance :- This ratio indicates the speed with which the amount iscollected from debtors. The higher the ratio, the better it is, since it indicatesthat amount from debtors is being collected more quickly. The more quicklythe debtors pay, the less the risk from bad- debts, and so the lower theexpenses of collection and increase in the liquidity of the firm.

By comparing the debtors turnover ratio of the current year with theprevious year, it may be assessed whether the sales policy of themanagement is efficient or not.

c. Average Collection Period :- This ratio indicates the time with inwhich the amount is collected from debtors and bills receivables.

Formula:

Average Collection Period = Debtors + Bills Receivable / Credit Sales perday Here, Credit Sales per day = Net Credit Sales of the year / 365

Second Formula :-

Average Collection Period = Average Debtors *365 / Net Credit Sales

Average collection period can also be calculated on the bases of DebtorsTurnover Ratio. The formula will be:

Average Collection Period = 12 months or 365 days / Debtors Turnover Ratio

Significance :-This ratio shows the time in which the customers are payingfor credit sales. A higher debt collection period is thus, an indicates of theinefficiency and negligency on the part of management. On the other hand,if there is decrease in debt collection period, it indicates prompt payment bydebtors which reduces the chance of bad debts.

D. Creditors turnover ratio :- this ratio indicates the relationship between

credit purchases and average creditors during the year .

Formula:-

Creditors turnover ratio = net credit purchases / average creditors + averageb/

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Note :- If the amount of credit purchase is not given in the question, the ratiomay be calculated on the bases of total purchase.

Significance :- This ratio indicates the speed with which the amount is beingpaid to creditors. The higher the ratio, the better it is, since it will indicatethat the creditors are being paid more quickly which increases the creditworthiness of the firm.

d. Average Payment Period :- This ratio indicates the period which isnormally taken by the firm to make payment to its creditors.

Formula:-

Average Payment Period = Creditors + B/P/ Credit Purchase per day

This ratio may also be calculated as follows :

Average Payment Period = 12 months or 365 days / Creditors Turnover

Ratio

Significance :- The lower the ratio, the better it is, because a shorterpayment period implies that the creditors are being paid rapidly.

d. Fixed Assets Turnover Ratio :- This ratio reveals how efficiently the fixedassets are being utilized.

Formula:- Fixed Assets Turnover Ratio = Cost of Goods Sold/ Net FixedAssets

Here, Net Fixed Assets = Fixed Assets Depreciation

Significance:- This ratio is particular importance in manufacturing concernswhere the investment in fixed asset is quit high. Compared with the previousyear, if there is increase in this ratio, it will indicate that there is betterutilization of fixed assets. If there is a fall in this ratio, it will show that fixedassets have not been used as efficiently, as they had been used in theprevious year.

e. Working Capital Turnover Ratio :- This ratio reveals how efficientlyworking capital has been utilized in making sales.

Formula :-

Working Capital Turnover Ratio = Cost of Goods Sold / Working Capital

Here, Cost of Goods Sold = Opening Stock + Purchases + Carriage + Wages+ Other Direct Expenses - Closing Stock

Working Capital = Current Assets Current Liabilities

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Significance :- This ratio is of particular importance in non-manufacturingconcerns where current assets play a major role in generating sales. It showsthe number of times working capital has been rotated in producing sales.

A high working capital turnover ratio shows efficient use of working capitaland quick turnover of current assets like stock and debtors.

A low working capital turnover ratio indicates under-utilisation of workingcapital.

Profitability Ratios or Income Ratios

(D) Profitability Ratios or Income Ratios:- The main object of every businessconcern is to earn profits. A business must be able to earn adequate profitsin relation to the risk and capital invested in it. The efficiency and thesuccess of a business can be measured with the help of profitability ratio.

Profitability ratio can be determined on the basis of either sales orinvestment into business.

(A) Profitability Ratio Based on Sales :

a) Gross Profit Ratio : This ratio shows the relationship between gross profitand sales.

Formula :

Gross Profit Ratio = Gross Profit / Net Sales *100

Here, Net Sales = Sales Sales Return

Significance:- This ratio measures the margin of profit available on sales. Thehigher the gross profit ratio, the better it is. No ideal standard is fixed for thisratio, but the gross profit ratio should be adequate enough not only to coverthe operating expenses but also to provide for deprecation, interest on loans,dividends and creation of reserves.

b) Net Profit Ratio:- This ratio shows the relationship between net profit andsales. It may be calculated by two methods:

Formula:

Net Profit Ratio = Net Profit / Net sales *100

Operating Net Profit = Operating Net Profit / Net Sales *100

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Cost of Goods Sold Ratio = Cost of Goods Sold / Net Sales*100

(d) Office and Administrative Expenses Ratio = Office and AdministrativeExp./

Net Sales*100

(e) Selling Expenses Ratio = Selling Expenses / Net Sales *100

(f) Non- Operating Expenses Ratio = Non-Operating Exp./Net sales*100

Significance:- Various expenses ratio when compared with the same ratios ofthe previous year give a very important indication whether these expensesin relation to sales are increasing, decreasing or remain stationary. If theexpenses ratio is lower, the profitability will be greater and if the expensesratio is higher, the profitability will be lower.

(B) Profitability Ratio Based on Investment in the Business:-

These ratio reflect the true capacity of the resources employed in theenterprise. Sometimes the profitability ratio based on sales are high whereasprofitability ratio based on investment are low. Since the capital is employedto earn profit, these ratios are the real measure of the success of thebusiness and managerial efficiency.

These ratio may be calculated into two categories:

I. Return on Capital Employed

II. Return on Shareholders funds

I. Return on Capital Employed :- This ratio reflects the overall profitabilityof the business. It is calculated by comparing the profit earned and thecapital employed to earn it. This ratio is usually in percentage and is alsoknown as Rate of Return or Yield on Capital.

Formula:

Return on Capital Employed = Profit before interest, tax and dividends/

Capital Employed *100Where, Capital Employed = Equity Share Capital + Preference Share Capital

+ All Reserves + P&L Balance +Long-Term Loans- Fictitious Assets (Such asPreliminary Expenses OR etc.) Non-Operating Assets like Investment madeoutside the business.

Capital Employed = Fixed Assets + Working Capital

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Advantages of Return on Capital Employed:-

Since profit is the overall objective of a business enterprise, this ratiois a barometer of the overall performance of the enterprise. Itmeasures how efficiently the capital employed in the business is beingused.

Even the performance of two dissimilar firms may be compared withthe help of this ratio.

The ratio can be used to judge the borrowing policy of the enterprise. This ratio helps in taking decisions regarding capital investment in

new projects. The new projects will be commenced only if the rate ofreturn on capital employed in such projects is expected to be morethan the rate of borrowing.

This ratio helps in affecting the necessary changes in the financialpolicies of the firm.

Lenders like bankers and financial institution will be determine whether

the enterprise is viable for giving credit or extending loans or not. With the help of this ratio, shareholders can also find out whether theywill receive regular and higher dividend or not.

II. Return on Shareholders Funds :-

Return on Capital Employed Shows the overall profitability of the fundssupplied by long term lenders and shareholders taken together. Whereas,Return on shareholders funds measures only the profitability of the fundsinvested by shareholders.

These are several measures to calculate the return on shareholders funds:

(a) Return on total Shareholders Funds :-

For calculating this ratio Net Profit after Interest and Tax is divided by totalshareholders funds.

Formula:

Return on Total Shareholders Funds = Net Profit after Interest and Tax /Total Shareholders Funds

Where, Total Shareholders Funds = Equity Share Capital + Preference ShareCapital + All Reserves + P&L A/c Balance Fictitious Assets

Significance:- This ratio reveals how profitably the proprietors funds havebeen utilized by the firm. A comparison of this ratio with that of similar firmswill throw light on the relative profitability and strength of the firm.

(b) Return on Equity Shareholders Funds:-

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Equity Shareholders of a company are more interested in knowing theearning capacity of their funds in the business. As such, this ratio measuresthe profitability of the funds belonging to the equity shareholders.

Formula:

Return on Equity Shareholders Funds = Net Profit (after int., tax &preference dividend) / Equity Shareholders Funds *100

Where, Equity Shareholders Funds = Equity Share Capital + All Reserves +P&L A/c Balance Fictitious Assets

Significance:- This ratio measures how efficiently the equity shareholdersfunds are being used in the business. It is a true measure of the efficiency ofthe management since it shows what the earning capacity of the equityshareholders funds. If the ratio is high, it is better, because in such a caseequity shareholders may be given a higher dividend.

(c) Earning Per Share (E.P.S.) :- This ratio measure the profit available to theequity shareholders on a per share basis. All profit left after payment of taxand preference dividend are available to equity shareholders.

Formula:

Earning Per Share = Net Profit Dividend on Preference Shares / No. ofEquity Shares

Significance:- This ratio helpful in the determining of the market price of theequity share of the company. The ratio is also helpful in estimating the

capacity of the company to declare dividends on equity shares.(d) Dividend Per Share (D.P.S.):- Profits remaining after payment of tax andpreference dividend are available to equity shareholders.

But of these are not distributed among them as dividend . Out of theseprofits is retained in the business and the remaining is distributed amongequity shareholders as dividend. D.P.S. is the dividend distributed to equityshareholders divided by the number of equity shares.

Formula:D.P.S. = Dividend paid to Equity Shareholders / No. of Equity Shares *100

(e) Dividend Payout Ratio or D.P. :- It measures the relationship between theearning available to equity shareholders and the dividend distributed amongthem.

Formula:

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D.P. = Dividend paid to Equity Shareholders/ Total

Net Profit belonging to Equity Shareholders*100 OR

D.P. = D.P.S. / E.P.S. *100

(f) Earning and Dividend Yield :- This ratio is closely related to E.P.S. andD.P.S. While the E.P.S. and D.P.S. are calculated on the basis of the bookvalue of shares, this ratio is calculated on the basis of the market value ofshare

(g) Price Earning (P.E.) Ratio:- Price earning ratio is the ratio betweenmarket price per equity share & earnings per share. The ratio is calculated tomake an estimate of appreciation in the value of a share of a company & iswidely used by investors to decide whether or not to buy shares in aparticular company.

Significance :- This ratio shows how much is to be invested in the market inthis companys shares to get each rupee of earning on its shares. This ratiois used to measure whether the market price of a share is high or low.

CALCULATION OF KEY RATIOS - LUCAS INDIAN SERVICES LIMITED :

Gross Profit Ratio = Gross Profit / Net Sales *100

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Gross Profit 1432 (in Lakhs) Net Sales 14608 (in Lakhs)

Gross Profit Ratio = 1432 / 14608 *100 = 7.82 %

Earning Per Share = Net Profit Dividend on Preference Shares / No. ofEquity Shares

Net Profit 1097 Dividend on Preference Shares 400 No. of Equity Shares 10

Earning Per Share = 1097 400 / 10 = 27.43 %

Current Ratio = Current Assets/ Current Liabilities

Current Assets 6358 Current Liabilities 5125

Current Ratio = 6358 / 5125 = 1.24

Return on Equity Shareholders Funds = Net Profit (after int., tax &preference dividend) / Equity Shareholders Funds *100

Net Profit - 1097 Equity Shareholders Funds 7927

Return on Equity Shareholders Funds = 1097 / 7927 *100 =13.84 %

Return on Capital Employed = Profit before interest, tax and dividends/

Capital Employed *100

Profit before interest, tax and dividends 1576

Capital Employed 7526

Return on Capital Employed = 1576 / 7526 * 100 = 19.88 %

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Dividend Per Share = Dividend paid to Equity Shareholders / No. ofEquity Shares *100

Dividend paid to Equity Shareholders 95 No. of Equity Shares 10

Dividend Per Share = 95 /10 = 9.5 %

Lucas Indian Service Ltd.

Key Ratios

Year ended 31/331.03.0

7 31.03.08 31.03.0931.03.

10

Gross Profit/ Sales 9.80% 9.39% 6.57% 7.82%

Operating Profit/Sales 8.56% 8.18% 5.58% 6.70%

Interest coverage (times) 28.56 45.32 31.33 15.50

Earnings per share (Rs/share) 24.90 25.54 16.95 27.43

Cash EPS (Rs/share) 28.39 29.96 20.81 31.47

Sales per share (Rs/share) 367074 420671 454951 553591

Dividend per share (Rs/share) 10.00 10.50 6.50 9.50

Book value of share (Rs/share) 158.85 172.50 181.85 198.17

Debt equity ratio (times) 0.00 0.00 0.00 0.00

Gross Profit/ total funds employed 0.23 0.23 0.17 0.22

RONW (%) 15.67% 14.81% 9.32% 13.84%

Pay out Ratio (%) 40.16% 41.11% 38.34% 34.64%

Operating profit margin 8.56% 8.18% 5.58% 6.70%Profit after tax / Total revenue 7.90% 7.72% 5.32% 6.40%

Employee costs / Total revenue 6.30% 6.44% 6.84% 6.65%

Tax / Profit before tax 20.38% 25.83% 33.51% 26.31%

Other Income / Total revenue 6.11% 4.06% 3.47% 3.71%

Cash profit / Total revenue 8.78% 8.71% 6.12% 7.09%

Acid test ratio 1.26 1.06 0.91 0.58

Cash & cash equivalents / Current liabilities 0.33 0.23 0.20 0.14

Current ratio 1.64 1.54 1.68 1.24

Debt - Equity ratio- - - -

Depreciation for the year / Average gross

block 5.88% 4.74% 4.49%

Capital expenditure / Depreciation 168.88% 219.83%330.05

%

Return on equity 15.67% 14.81% 9.32% 13.84%

Return on capital employed 20.34% 20.35% 14.40% 19.88%

Cash profit / Average net worth 21.89% 22.52% 16.14% 20.82%

Growth in total revenue 12.69% 7.42% 21.38%

Growth in net profit ( before taxation ) 10.09% -25.94% 45.95%

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Sales / Total assets 349.47% 372.86% 391.39%332.01

%

Cash & cash equivalents / Total revenue 6.01% 4.93% 4.05% 2.96%

Cash & cash equivalents / Total assets 22.79% 19.49% 16.63% 10.29%

Cash earnings per share 28.39 29.96 20.81 31.47

Dividend per share 10.00 10.50 6.50 9.50

EPS Growth 2.57% -33.61% 61.76%

Chapter 7

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Objectives

OBJECTIVES

Analysis of financial statements is an attempt to assess the efficiency and

performance of an enterprise. For that there are some objectives which are

described as under.

1. EARNING CAPACITY OR PROFITABILITY

The overall objective of a business is to earn a satisfactory return on the

funds invested in it. Financial analysis helps in ascertaining whether

adequate profits are being earned on the capital invested in the business ornot. It also helps in knowing the capacity to pay the interest and dividend.

2. COMPARATIVE POSITION IN RELATION TO OTHER FIRMS

The purpose of financial statements analysis is to help the management to

make a comparative study of the profitability of various firms engaged in

similar business. Such comparison also helps the management to study the

position of their firm in respect of sales expenses, profitability and using

capital.etc.

3. EFFICIENCY OF MANAGEMENT

The purpose of financial statement analysis is to know that the financial

policies adopted by the management are efficient or not. Analysis also helps

the management in preparing budgets by forecasting next years profit on

the basis of past earnings. It also helps the management to find out

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shortcomings of the business so that remedial measures can be taken to

remove these shortcomings.

4. FINANCIAL STRENGTH

The purpose of financial analysis is to assess the financial potential of

business. Analysis also helps in taking decisions;

(a) Whether funds required for the purchase of new machinery and

equipments are provided from internal resources of business or not.

(b) How much funds have been raised from external sources.

5.SOLVECNY OF THE FIRM

The different tools of analysis tells us whether the firm has suffucient funds

to meet its short-term and long-term liabilities or not.

Chapter 8

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IMPORTANCE

IMPORTANCERatio analysis is an important technique of financial analysis. It is a meansfor judging the financial health of a business enterprise. It determines andinterprets the liquidity,solvency,profitability,etc. of a business enterprise.

It becomes simple to understand various figures in the financialstatements through the use of different ratios. Financial ratios simplify,sumarise, and systemise the accounting figures presented in financial

statements.

With the help of raito analysis, comparision of profitability and financialsoundness can be made between one industry and another. Similarlycomparision of current year figures can also be made with those ofprevious years with the help of ratio analysis and if some weak pointsare located, remidial masures are taken to correct them.

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If accounting ratios are calculated for a number of years, they willreveal the trend of costs, sales, profits and other important facts. Suchtrends are useful for planning.

Financial ratios, based on a desired level of activities, can be set asstandards for judging actual performance of a business. For example, ifowners of a business aim at earning profit @ 25% on the capital whichis the prevailing rate of return in the industry then this rate of 25%becomes the standard. The rate of profit of each year is compared withthis standard and the actual performance of the business can bejudged easily.

Ratio analysis discloses the position of business with differentviewpoint. It discloses the position of business with liquidity viewpoint,solvency view point, profitability viewpoint, etc. with the help of such a

study, we can draw conclusion regardings the financial health ofbusiness enterprise.

Chapter 9

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ADVANTAGES&

LIMITATIONS

ADVANTAGESRatio analysis is an important and age-old technique of financial analysis.

The following are some of the advantages of ratio analysis:

1. Simplifies financial statements: It simplifies the comprehension of

financial statements. Ratios tell the whole story of changes in the financial

condition of the business.

2. Facilitates inter-firm comparison: It provides data for inter-firm

comparison. Ratios highlight the factors associated with successful and

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unsuccessful firm. They also reveal strong firms and weak firms, overvalued

and undervalued firms.

3. Helps in planning: It helps in planning and forecasting. Ratios can assist

management, in its basic functions of forecasting. Planning, co-ordination,

control and communications.

4. Makes inter-firm comparison possible: Ratios analysis also makes

possible comparison of the performance of different divisions of the firm. The

ratios are helpful in deciding about their efficiency or otherwise in the past

and likely performance in the future.

5. Help in investment decisions: It helps in investment decisions in the

case of investors and lending decisions in the case of bankers etc.

LIMITATIONSThe ratios analysis is one of the most powerful tools of financial

management. Though ratios are simple to calculate and easy to understand,

they suffer from serious limitations.

1. Limitations of financial statements: Ratios are based only on the

information which has been recorded in the financial statements. Financial

statements themselves are subject to several limitations. Thus ratios

derived, there from, are also subject to those limitations. For example, non-financial changes though important for the business are not relevant by the

financial statements. Financial statements are affected to a very great

extent by accounting conventions and concepts. Personal judgment plays a

great part in determining the figures for financial statements.

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2. Comparative study required: Ratios are useful in judging the efficiency

of the business only when they are compared with past results of the

business. However, such a comparison only provide glimpse of the past

performance and forecasts for future may not prove correct since several

other factors like market conditions, management policies, etc. may affect

the future operations.

3. Problems of price level changes: A change in price level can affect the

validity of ratios calculated for different time periods. In such a case the ratio

analysis may not clearly indicate the trend in solvency and profitability of the

company. The financial statements, therefore, be adjusted keeping in view

the price level changes if a meaningful comparison is to be made through

accounting ratios.

4. Lack of adequate standard: No fixed standard can be laid down forideal ratios. There are no well accepted standards or rule of thumb for all

ratios which can be accepted as norm. It renders interpretation of the ratios

difficult.

5. Limited use of single ratios: A single ratio, usually, does not convey

much of a sense. To make a better interpretation, a number of ratios have to

be calculated which is likely to confuse the analyst than help him in making

any good decision.

6. Personal bias: Ratios are only means of financial analysis and not an end

in itself. Ratios have to interpret and different people may interpret the same

ratio in different way.

7. Incomparable: Not only industries differ in their nature, but also the firms

of the similar business widely differ in their size and accounting procedures

etc. It makes comparison of ratios difficult and misleading.

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Chapter 10

CONCLUSION

CONCLUSION

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Ratios make the related information comparable. A single figure byitself has no meaning, but when expressed in terms of a related figure,it yields significant interferences. Thus, ratios are relative figuresreflecting the relationship between related variables. Their use as toolsof financial analysis involves their comparison as single ratios, like

absolute figures, are not of much use.

Ratio analysis has a major significance in analysing the financialperformance of a company over a period of time. Decisions affectingproduct prices, per unit costs, volume or efficiency have an impact onthe profit margin or turnover ratios of a company.

Financial ratios are essentially concerned with the identification ofsignificant accounting data relationships, which give the decision-

maker insights into the financial performance of a company.

The analysis of financial statements is a process of evaluating therelationship between component parts of financial statements toobtain a better understanding of the firms position and performance.

The first task of financial analyst is to select the information relevant tothe decision under consideration from the total information containedin the financial statements. The second step is to arrange the

information in a way to highlight significant relationships. The final stepis interpretation and drawing of inferences and conclusions. In brief,financial analysis is the process of selection, relation and evaluation.

Ratio analysis in view of its several limitations should be consideredonly as a tool for analysis rather than as an end in itself. The reliabilityand significance attached to ratios will largely hinge upon the qualityof data on which they are based. They are as good or as bad as thedata itself. Nevertheless, they are an important tool of financialanalysis.

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Chapter -11

BIBLIOGRAPHY

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BIBLIOGRAPHY

Web Sites:

http://www.lucas-service.in/

Books Referred:

Basic Financial Management- M Y KhanP K Jain Financial Management- Prasanna Chandra

Annual Reports

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Documents

Ratio Analysis Project_ Jaya_final