Analysis of Financial Statement (Kaushal Mehta)

A SUMMER INTERNSHIP REPORT ON ANALYSIS OF FINANCIAL STATEMENT
Submitted to L.J. Institute of Engineering and Technology
In requirement of partial fulfillment of Masters of Business Administration (MBA) 2 year full time Program of Gujarat Technological University
Submitted on: 14th July 2011 Submitted by:
Kaushal .R. Mehta Enrollment number-107280592017 Batch No.: 2010-12
ACKNOWLEDGEMENT
The activity of going through summer training has bridged the gap between the academics and practical life for us. Many people supported us in our training and project and we take this opportunity to acknowledge their support. No one can complete any internship without taking the guidance and support of their guides and well wishers. It was highly eventful session working, with Thermotech systems limited. Hence we are thankful to them for providing us this opportunity to work with them because this is the experience that will surely help us in our future endeavors. We would like to express our gratitude to our company guide Mr. Kinjal Shah (Director) and all staff members including for his help. They have been a constant source of inspiration and we are thankful to them for pushing us to limits whenever we have fallen back in our project and providing new insights on the problems that we have encountered. Their guidance gave us new direction for system understanding and corporate culture. We are thankful to Mr. Kinjal Shah for his constructive contribution and guidance towards successful completion of the project. We are also thankful to our faculty guides Mr. Mehul Yogi for helping us in our project and for their suggestions on how to proceed step by step in the making of the project. Last but not least there are so many other people whose name might not appear in the acknowledgement but the sense of gratitude for them will always remain in our heart. Thanks to All.
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PREFACE
The project presented here gives an idea about how the various Financial analysis are executed at Thermotech systems limited. In today's era we find that FINANCE is becoming a recognized department. Most of the fields are getting automated and computerized and so is FINANCE. As a part of the course curriculum, the third semester students are required to prepare a project report. The objective behind preparing this project is to relate the management subjects taught in the classrooms to their practical application. The preparation of this project report is based on facts and findings noted during the summer internship program, information received from written and published documents and briefings by company executives. The material used in this project has come from a wide variety of forces. As possible the project has been accompanied by graphs and statistical information. Clear and lucid language has been used to make the project easily understood by the readers. Moreover, the scope of the project is limited to the observation made during the training period as they were not providing with their firms information. The primary data is collected by observation and personnel interview. My work in this project is therefore a humble attempt towards this end. In spite of my best efforts, there may be errors of omissions and commissions which may please be excused.
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Certificate It is hereby certified that the work incorporated in the thesis submitted entitled ANALYSIS OF FINANCIAL STATEMENT submitted by Mr. Kaushal Rameshkumar Mehta comprises the result of independent and original investigation carried out me. The material which obtained (and used) from other sources has been duly acknowledged in the thesis.
Date: Place: Signature of the student
It is certified that the work mentioned above is carried out under my guidance.
Date: Place: Signature of the faculty guide
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TABLE OF CONTENTS Sr.No.

EXECUTIVE SUMMARY Ch.1 1.1 1.2 1.3 1.4 1.5 1.6 1.7 1.8 1.9 1.10 1.11 STUDY OF INDUSTRY Introduction to Indian Engineering Industry Heavy Electrical Industry Heavy Engineering Sector Company Profile Quality Policy Our Vision The Products Major Achievements and Credentials Corporate Profile The Company Today Application of Thermotech Products OBJECTIVE STATEMENT Ch.2 2.1 2.2 2.3 Ch.3 3.1 3.2 3.3 3.4 3.5 3.6 3.7 3.8 Ch.4 RESEARCH METHODOLOGY Financial Analysis Elements of Financial Statement Task of Financial Analyst RATIO ANALYSIS Meaning Steps in Ratio Analysis Relationship of Ratios Importance of Ratio Analysis Limitations of Ratio Analysis Classification of Ratios Guidelines for the use of Ratio Types of the Ratio DATA ANALYSIS AND INTERPRETATION CONCLUSIONS LIMITATIONS OF THE STUDY REFERENCES
Title
Page No.
5 6 7 8 9 12 13 13 13 14 15 15 15 16 17 18 24 25 26 27 27 28 29 30 31 32 33 61 98 99 100
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EXECUTIVE SUMMARY
In this report we would try and look how financial analysis is has been done with help of various financial statements, how they function and what opportunities do they offer to the management of the company. Firstly we would see why is there need for financial analysis, what are the different factors that affect the financial position of the company, we will see what are different methods of finding companys present financial position. Secondly we will try to compare the current years data or the current year financial position to the previous year financial position, so that we can analyze whether company is able to improve its financial position or not. This report consists of various expenses and income which are taken in consideration after many findings. Here data regarding companys finance department has been analyzed very effectively. This project consists of various years data and also its comparison between the years with the help of graph and interpretation.
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Analysis of Financial Statement
Chapter 1: Study of Industry
Summer Internship Report
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1.1 Introduction to Indian Engineering Industry: The Engineering sector is the largest in the overall industrial sectors in India. It is a diverse industry with a number of segments, and can be broadly categorized into two segments, namely, heavy engineering and light engineering. The engineering sector is relatively less fragmented at the top, as the competencies required are high, while it is highly fragmented at the lower end (e.g. unbranded transformers for the retail segment) and is dominated by smaller players. The engineering industry in India manufactures a wide range of products, with heavy engineering goods accounting for bulk of the production. Most of the leading players are engaged in the production of heavy engineering goods and mainly produces high-value products using high-end technology. Requirement of high level of capital investment poses as a major entry barrier. Consequently, the small and unorganized firms have a small market presence. The light engineering goods segment, on the other hand, uses medium to low-end technology. Entry barrier is low on account of the comparatively lower requirement of capital and technology. This segment is characterized by the dominance of small and unorganized players which manufacture low-value added products. However, there are few medium and large scale firms which manufacture high-value added products. This segment is also characterized by small capacities and high level of competition among the players. Which steam boilers and steam pipes are regulated by Indian Boiler Regulations? Steam boiler: Steam boilers under IBR means any closed vessel exceeding 22.75 liters in capacity and which is used expressively for generating steam under pressure and includes any mounting or other fitting attached to such vessel which is wholly or partly under pressure when the steam is shut off. Steam pipes: IBR steam pipe means any pipe through which steam passes from a boiler to a prime mover or other user or both if pressure at which steam passes through such pipes exceeds 3.5 kg/cm2 above atmospheric pressure or such pipe exceeds 254 mm in internal diameter and includes in either case any connected fitting of a steam pipe.
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1.1.1 User Segments The major end-user industries for heavy engineering goods are power, infrastructure, steel, cement, petrochemicals, oil & gas, refineries, fertilizers, mining, railways, automobiles, textiles, etc. Light engineering goods are essentially used as inputs by the heavy engineering industry. 1.2 Heavy Electrical Industry The fortunes of the heavy electrical industry have been closely linked to the development of the power sector in India. The heavy electrical industry has under its purview power generation, transmission, distribution and utilization equipments. These include turbo generators, boilers, turbines, transformers, switchgears and other allied items. These electrical equipments (transformers, switchgears, etc) are used by almost all the sectors. Some of the major areas where these are used include power generation projects, petrochemical complexes, chemical plants, integrated steel plants, non-ferrous metal units, etc. The existing installed capacity of the India heavy electrical industry is 4,500 MW of thermal, 1,345 MW of hydro and about 250 MW of gas-based power generation equipment per annum. The industry has the capability to manufacture transmission and distribution equipment upto 400 KV AC and high voltage DC. 1. Turbines and Generator Sets The Indian industry has established a manufacturing capacity of various kinds of turbines of more than 7,000 MW per annum. The PSE Bharat Heavy Electricals Ltd (BHEL) has the largest installed capacity. There are units in the private sector also which manufacture steam and hydro turbines for power generation and industrial use. Domestic manufacturers of AC generators are capable of manufacturing AC generator from 0.5 KVA to 25,000 KVA and above. 2. Boilers The Indian boilers industry has the capability to manufacture boilers with super critical parameters upto 1,000 MW unit size. BHEL is the largest manufacturer of boilers in the country, with a market share of over 60%. It has the capability to manufacture boilers for super thermal power plants, apart from utility boilers and industrial boilers.
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3. Transformers The domestic transformer industry has the capability to manufacture the whole range of power and distribution transformers. Special types of transformers required for furnaces, rectifiers, electric tract, etc, and series and shunt reactors as well as HVDC transmission upto 500 KV are also being manufactured in India. 4. Switchgear and Control Gear The switchgear and control gear industry in India is a fully developed one, producing and supplying a wide variety of switchgear and control gear items required by the industrial and power sectors. The entire range of circuit breakers from bulk oil, minimum oil, air blast, vacuum to SF6 are manufactured to standard specification. The range of products produced cover the entire voltage range for 240V to 800KV, switchgear and control gear, MCBs, air circuit breakers, switches, rewire able fuses and HRC fuses with their respective fuse bases, holders and starters. 5. Electrical Furnaces Electrical furnaces are used in Metallurgical and engineering industries such as forging and foundry, machine tools, automobiles, etc. 6. Shunting Locomotives Shunting locomotives for internal transport facilities are essentially used in railways, steel plants, thermal power plants, etc. 1.3 Heavy Engineering Sector The heavy engineering sector can be classified into two broad segments capital goods/machinery (which is further classified as electrical machinery/equipment and nonelectrical machinery/equipment), and equipment segments. Electrical machinery includes the following: power generation, transmission and distribution equipments such as generators and motors, transformers and switchgears. Non-electrical machinery includes machines/equipments used in various sectors such as material handling equipments (earth moving machinery, excavators, cranes, etc), boilers, etc.
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1. Textile Machinery Industry The textile machinery industry in India manufactures machinery needed for sorting, cording, processing of yarns/ fabrics and weaving, along with the components, spares and accessories. As per the Ministry of Heavy Industries, there are over 600 units engaged in the manufacture of machinery and spares, and out of these, about 100 units are manufacturing complete machinery. 2. Cement Machinery Industry The Indian cement machinery industry manufactures complete cement plants, based on dry processing and pre-calcinations technology, for capacities up to 7500 TPD. According to the Ministry of Heavy Industries, presently there are 18 units in the organized sector for the manufacture of complete cement plant machinery. 3. Sugar Machinery Industry As per the estimates of the Ministry of Heavy Industries, there are presently 27 units in the organized sector for the manufacture of complete sugar plants and components. The industry can manufacture sugar plants for a capacity up to 10,000 TCD (tones crushing per day). India is a net exporter of sugar machinery. 4. Rubber Machinery Industry The rubber machinery industry in India manufactures inters-mixer, tyre curing presses, tyre moulds, tyre building machines, turnet service, bias cutters, rubber injection moulding machine, bead wires, etc. According to the Ministry of Heavy Industries, currently there are 19 units in the organised sector for the manufacture of rubber machinery mainly required for tyre/tube industry. 5. Material Handling Equipment Industry The Indian material handling equipment industry manufactures a range of equipments including crushing and screening plants, coal/ore/ash handling plant and associated equipment such as stackers, reclaimers, ship loaders/unloaders, wagon tipplers, feeders, etc. The industry caters to the requirement of a host of core industries such as coal, cement, power, port, mining, fertilizers and steel plants. Apart from the organsied players, there are a number of units present in the small scale sector.
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6. Oil Field Equipment Industry The oil field equipment manufacturing industry manufactures drilling rigs for on-shore drilling. Offshore drilling equipments like jack-up rigs, etc are not manufactured indigenously. The industry however manufactures offshore platforms and certain other technological structures domestically. Bharat Heavy Electricals, Hindustan Shipyard, Mazagon Dock and Burn & Co. are some of the leading producers. The recent couple of years have witnessed a surge in exports of oil field equipments. However, the industry remains a net importer. 7. Mining Machinery Industry The various type of mining equipments include Longwall mining equipments, road header, side dischargers loader, haulage winder, ventilation fan, load haul dumper, coal cutter, conveyors, battery locos, pumps, friction prop, etc. 8. Machine Tool Industry The machine tool industry is regarded as the backbone of the entire industrial engineering industry. The Indian machine tool industry manufactures almost the entire range of metal-cutting and metal-forming machine tools. Apart from conventional machine tools and Computer Numerically Controlled (CNC) machines, the Indian industry also offers other variants such as special purpose machines, robotics, handling systems, and TPM-friendly machines.
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1.4 Company profile

Name : Thermotech systems limited.
Factory :
Plot no 2608,Phase IV,GIDC Estate Vatva, Ahmedabad Dist: Ahmedabad. Gujarat, India.
Establishment : M.D. :
February, 1996 Shri Rajnibhai J. Shah Customers by providing best Quality Products with innovative technology.
Main objective : To win total Quality satisfaction from
Management: Product: Scope :
Limited Company. Thermic Fluid Heater & Non-IBR Steam Boiler Manufacturing, supply and services of Thermic fluid heater and non-IBR steam Boiler.
We introduce ourselves as a leading manufacturer of process heating equipments & turn key industrial solutions, with manufacturing facilities in Gujarat & Marketing, service network across India with offices in Delhi, Mumbai, Indore, Chennai, Bangalore, Hyderabad, Calcutta, Rajasthan, etc & abroad with representative in Turkey, UAE, Srilanka, Bangladesh. We had exported to countries like Srilanka, Bangladesh, Nepal, Kenya, Nigeria, UAE, Saudi Arabia, New Zealand, Turkey, etc.
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1.5 QUALITY POLICY We at Thermotech systems limited commit to provide products with value addition meeting customer satisfaction. We shall also strive hard for continual improvement of our processes. We shall accomplish quality objectives by establishing, implementing and maintaining effective quality management systems which complies with the requirement of ISO 9001:2000. 1.6 OUR VISION To be leaders in providing solutions for PROCESS HEATING & ENGINEERING through consistent quality products & complete customer satisfaction. 1.7 THE PRODUCTS Thermotech, an eco-energy company is one of the few companies in the world that offers integrated solution in energy & ecosystem management. Thermotech is a solution provider for complete process heating systems & its ancillaries.
THERMOTECHS wide range of heating solution envelops: 1. Thermic Fluid Heater 2. Hot Water Generator 3. Air Heaters : : : Range up to 15 M Kcal/hr Range Up to 10 M Kcal/hr Range up to 4 M Kcal/hr
Fuel For Above Systems: OIL / GAS / SOLID FUEL
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SOME OF OUR HIGHLIGHTED CUSTOMERS:
1. HLL 2. PARLE 3. JINDAL 4. BIRLA 5. EMAMI 6. BAJAJ HINDUSTAN 7. HAYLEYS GROUP 8. BOMBAY DYEING 9. DUKES 10. SHELL
1.8 MAJOR ACHIEVEMENTS & CREDENTIALS 3.5 M Kcal/hr x 4 Nos. : Dual Gas Fired Thermic Heater by GPS-DUBAI for Ukraine Gas Treatment Plant Hazardous Zone We had commissioned 10 M Kcal/hr Thermic Heater Coal Fired in Turkey, which is First of its kind to be manufactured by any Indian Company other than Thermax. We had executed orders up to 12 M Kcal/hr Thermic Fluid Heater. The customer base of more than 1300 in India & abroad. Thermotech has tie-up with consultants for detail engineering of specialized projects, pipeline engineering & major structural work of complete system.
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1.9 CORPORATE PROFILE The motivating power behind the phenomenal success of the Company since its inceptions is a sole motto to provide a wide range of quality products maintenance free, which is manufactured with the latest state of the art technology. Guided by the dedicated philosophy of technical perfection, Thermotech Systems Limited has earned nation wide high reputation for its exclusively superior quality products. Needless to say that this well pursued motto has made the Company a distinctly outstanding entity in a highly competitive field.
1.10 THE COMPANY TODAY Today, the Company by its continuous quality encroachment had earned a recognition, which ensures quality management services & hence an improved product quality. Thermotech enjoys a wide spread satisfied client base of around 1500, also that the companys products are being exported to neighboring countries. The entire products are very well received and commands high rate of preference in the market. The Company is promoted and backed up by a team of highly qualified and experienced technocrats and professionals fully devoted to their respective field- Production, Marketing, Administration etc., besides, it is heavily banking on its trump card, a prompt and efficient after sales service. All these put to gather have led us to what we are today.
1.11 APPLICATION OF THERMOTECH PRODUCTS
Thermotechs products are widely used in following industries:
CHEMICALS TEXTILE GARMENTS LEATHER
PLYWOOD PAINT RUBBER PAPER
SOLAR FOOD DISTILLERY AUTO
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OBJECTIVE STATEMENT
To learn the practical application of theory and fundamental of financial analysis methods. To apply the skills to interpret at particular time of period in the company for financial analysis. To understand day to day working of the company, how company manages each and every activity. To understand the management of finance department to improve companys present position. To bridge the gap between the real-life business and academic of the management fundamentals. To develop a platform to network which will be useful to further their career prospects.
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Chapter 2: Research methodology
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2.1 Financial Analysis: Financial analysis is the process of identifying the financial strengths and weaknesses of the firm and establishing relationship between the items of the balance sheet and profit and loss account. Financial ratio analysis is the calculation and comparison of ratios which are derived from the information in a companys financial statements. The level and historical trends of these ratios can be used to make inferences about a companys financial condition, its operations and attractiveness as an investment. The information in the statements is used by following. 1) Trade creditors, to identify the firms ability to meet their claims i.e. liquidity position of the company. 2) Investors, to know about the present and future profitability of the company and its financial structure. 3) Management, in every aspect of the financial analysis. It is the responsibility of the management to maintain sound financial condition in the company. The Financial statement of the company does not give all the information regarding the financial operations of a firm. They provide some useful information to the extent the balance sheet mirrors the financial position on a particular date in terms of the structure of assets, liabilities and owners equity. Profit and loss account shows the results of operation during a certain period of time in terms of the revenues obtained and the cost incurred during the year. Financial statement provides a summarized view of the financial position and operations of the firm. The analysis of financial statement is an important aid to financial analysis. The focus of financial analysis is on key figures in the financial statement and the significant relationship that exist between them. The analysis of financial statement is a process of evaluating relationship between component parts of financial statement to obtain a better understanding of the firms position and performance. 2.1.1 Financial analysis can be done as per following methods:1) Ratio analysis 2) Common-size statements 3) Importance and limitations of Ratio analysis
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Major Financial statements:1) Balance sheet 2) Profit and loss account The process of analysis is usually done by using these two statements or with the help of other ledgers made in the company . 2.1.2 Balance sheet:In financial accounting, a balance sheet or statement of financial position is a summary of the financial balances of a business. Assets, liabilities and ownership equity are listed as on a specific date, such as the end of its financial year. A balance sheet is often described as a "snapshot of a company's financial condition". Balance sheet is the traditional basic statement of a business enterprise. It
furnishes useful financial data regarding its operation. It does not provides the information regarding changes in firms financial position. It fails to provide following answers: 1) What have been the factors responsible for the difference in owners equity, assets and liabilities of the firm at two dates of consecutive balance sheets? 2) What have been the premier financing and investment activities of the firm this period? 3) Have long term sources been adequate to finance fixed assets purchase in the company? 4) Does the firm possess adequate working capital? 5) How much funds have been generated from operations? A standard company balance sheet has three parts:1) Assets 2) Liabilities 3) Ownership equity during
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1) Assets:Any item of economic value owned by an company, especially that which could be converted into cash. Examples are cash, securities, accounts receivable, inventory, equipment, real estate, property or investments. On a balance sheet, assets are equal to the sum of liabilities, common stock, equity capital and retained earnings. From an accounting perspective, assets are divided into the following categories: 1) Current assets ( Cash and other Liquid items) 2) Long term assets ( Land, Plant, Equipments) 3) Prepaid and differed assets( Expenditure for future costs such as Insurance, Rent, Interest) 4) Intangible assets ( Trademark, Patents, Copyright, Goodwill) 2) Liabilities:An obligation that legally binds an company to settle a debt. When one is liable for a debt, they are responsible for paying the debt or settling they may have committed. For example, if John hits Jane's car, John is liable for the damages to Jane's vehicle because John is responsible for the damages. In the case of a company, a liability is recorded on the balance sheet and can include accounts payable, taxes, wages, accrued expenses, and differed revenues. Current liabilities are debts payable within one year, while long term liabilities are debts payable over a longer period. 3) Ownership Equity:Total assets minus total liabilities of an company is called Ownership Equity. It includes share capital, reserves and surplus, profit. Share Capital- 1) Equity share capital 2) Preference share capital 3) Net profit 4) Reserves 5) Surplus
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2.1.3 Profit and loss account:Profit and loss account is also known as income statement, statement of financial performance, operating statement. Profit and loss account is a company's financial statement that indicates how the revenue (money received from the sale of products and services before expenses are taken out) is transformed into the net income (the result after all revenues and expenses have been accounted for, also known as the "bottom line"). It displays the revenues recognized for a specific period, and the cost and expenses charged against these revenues, including write-offs (e.g., depreciation and amortization of or lost money during the period being reported. The important thing to remember about an income statement is that it represents a period of time. This contrasts with the balance sheet, which represents a single moment in time. Charitable organizations that are required to publish financial statements do not produce an income statement. Instead, they produce a similar statement that reflects funding sources compared against program expenses, administrative costs, and other operating commitments. This statement is commonly referred to as the statement of activities. Revenues and expenses are further categorized in the statement of activities by the donor restrictions on the funds received and expended. The income statement can be prepared in one of two methods. The Single Step income statement takes a simpler approach, totaling revenues and subtracting expenses to find the bottom line. The more complex Multi-Step income statement (as the name implies) takes several steps to find the bottom line, starting with the gross profit. It then calculates operating expenses and, when deducted from the gross profit, yields income from operations. Adding to income from operations is the difference of other revenues and other expenses. When combined with income from operations, this yields income before taxes. The final step is to deduct taxes, which finally produces the net income for the period measured. various assets) and taxes. The purpose of the income statement is to show managers and investors whether the company made
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Usefulness of Income statement: 1) Income statements helps investors and creditors determine the past financial performance of the enterprise. 2) Predict future performance. 3) Assess the capability of generating future cash flows through report of the income and expenses. Limitations of Income statement: 1) Items that might be relevant but cannot be reliably measured are not reported (e.g. Brand recognition and Loyalty). 2) Some numbers depend on accounting methods used (e.g. Using FIFO or LIFO accounting to measure Inventory level). 3) Some numbers depend on judgments and estimates (e.g. Depreciation expense depends on estimated useful life and salvage value). The expenses and incomes determined in the profit and loss account can be differentiated as follows:
2.1.4 Operating section Revenue - Cash inflows or other enhancements of assets of an entity during a period from delivering or producing goods, rendering services, or other activities that constitute the entity's ongoing major operations. It is usually presented as sales minus sales discounts, returns, and allowances. Expenses - Cash outflows or other using-up of assets or incurrence of liabilities during a period from delivering or producing goods, rendering services, or carrying out other activities that constitute the entity's ongoing major operations.
Cost of Goods Sold - Represents the direct costs attributable to goods produced and sold by a business (manufacturing or merchandizing). It includes material, direct labor, and overhead costs, and excludes operating costs (period costs) such as selling, administrative, advertising or R&D, etc.
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Selling, General and Administrative expenses - Consist of the combined payroll costs. These are usually understood as a major portion of non-production related costs, in contrast to production costs such as direct labor.
Selling expenses - Represent expenses needed to sell products (e.g. Salaries of sales people, commissions and travel expenses, advertising, freight, shipping, depreciation of sales store buildings and equipment, etc.).
General and Administrative expenses - Represent expenses to manage the business. (Salaries of officers / executives, legal and professional fees, utilities, insurance, depreciation of office building and equipment, office rents, office supplies, etc.).
Depreciation / Amortization - The charge with respect to fixed assets / Intangible assets that have been capitalized on the balance sheet for a specific (accounting) period. It is a systematic and rational allocation of cost rather than the recognition of market value decrement.
Research & Development (R&D) expenses - Represent expenses included in research and development.
Expenses recognized in the income statement should be analyzed either by nature (raw materials, transport costs, staffing costs, depreciation, employee benefit etc.) or by function (cost of sales, selling, administrative, etc.). 2.1.5 Non-operating section Other revenues or gains - Revenues and gains from other than primary business activities (e.g. Rent, income from patents). It also includes unusual gains that are either unusual or infrequent, but not both (e.g. Gain from sale of securities or gain from disposal of fixed assets) Other expenses or losses - Expenses or losses not related to primary business operations, (e.g. Foreign exchange loss). Finance costs - Costs of borrowing from various creditors (e.g. Interest expenses, bank charges). Income tax expense - Sum of the amount of tax payable to tax authorities in the current reporting period (Current tax liabilities/ tax payable) and the amount of deferred tax liabilities (or assets).
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2.2 Elements of Financial statement:

Assets are probable future economic benefits obtained or controlled by a particular entity as a result of past transactions or events. Comprehensive income is the change in equity (net assets) of an entity during a period from transactions and other events and circumstances from non owner sources. It includes all changes in equity during a period except those resulting from investments by owners and distributions to owners. Distributions to owners are decreases in net assets of a particular enterprise resulting from transferring assets, rendering services, or incurring liabilities to owners. Distributions to owners decrease ownership interest or equity in an enterprise. Equity is the residual interest in the assets of an entity that remains after deducting its liabilities. In a business entity, equity is the ownership interest. Expenses are outflows or other uses of assets or incurring of liabilities during a period from delivering or producing goods or rendering services, or carrying out other activities that constitute the entity's ongoing major or central operation. Gains are increases in equity (net assets) from peripheral or incidental transactions of an entity and from all other transactions and other events and circumstances affecting the entity during a period except those that result from revenues or investments by owner. Investments by owners are increases in net assets of a particular enterprise resulting from transfers to it from other entities of something of value to obtain or increase ownership interest (or equity) in it. Liabilities are probable future sacrifices of economic benefits arising from present obligations of a particular entity to transfer assets or provide services to other entities in the future as a result of past transactions or events. Losses are decreases in equity (net assets) from peripheral or incidental transactions of an entity and from all other transactions and other events and circumstances affecting the entity during a period except those that result from expenses or distributions to owners. Revenues are inflows or other enhancements of assets of an entity or settlement of its liabilities (or a combination of both) during a period from delivering or producing goods, rendering services, or other activities that constitute the entity's ongoing major or central operation.
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2.3 Task of Financial Analyst:1) Select the information relevant to the decision. 2) Arrange the information in a way to highlight significant relationships 3) Interpretation and drawing of inferences and conclusions. In short:1) Selection 2) Relation 3) Evaluation
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Chapter 3: Ratio Analysis
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As if the financial statement does not gives all the information regarding the financial operation of the firms. The ratio analysis is one of the important method of doing analysis of financial statement. 3.1 Meaning:Ratio analysis is a widely used tool of financial analysis. It is defined as the systematic use of ratio to interpret the financial statement so that the strengths and weaknesses of a firm as well as its historical performance and current financial condition can be determined. The term ratio defers to the numerical or quantitive relationship between two items. Ratios are used to assess the return on investment, solvency, liquidity, resources efficiency, profitability and capital market valuation of the company. Ratio analysis is thus a relative and more focused analysis of financial statement. That does not mean that it can be used independently of other tools and techniques. It leads to an expansion and further analysis of the findings recorded through other tools. Ratio analysis is of particular significance in the following cases: 1) Trend ratios 2) Inter-firm comparison 3) Comparison of items within a single years financial statement 4) Comparison with standards or plan 1) Trend ratios involve a comparison of ratios of a firm over a time, that is, present ratios are compared with past ratios. 2) Inter-firm comparison involving comparison of the ratio of a firm with those of others in the same line of business. 3) Remaining both are ratios which may relate to comparison of items within a single years financial statement of a firm and comparison with standard or plans. 3.2 Steps in Ratio Analysis 1) The first task of the financial analysis is to select the information relevant to the decision under consideration from the statements and calculates appropriate ratios. 2) To compare the calculated ratios with the ratios of the same firm relating to the past or with the industry ratios. It facilitates in assessing success or failure of the firm. 3) Third step is to interpretation, drawing of inferences and report writing conclusions are drawn after comparison in the shape of report or recommended courses of action.
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3.3 Relationship of Ratios Relationship of ratios can be determined as follows: 1) Percantage: Assuming sales of the company is Rs.100000. Net profit of the company is Rs.25000 Net profit ratio = Net profit 100 Sales = 25000 100 100000 = 25% 2) Fraction: Assuming sales of the company is Rs.100000. Net profit of the company is Rs.25000 Net profit ratio = Net profit Sales = 25000 100000 = 1 /4 3) Proportion of numbers: Assuming sales of the company is Rs.100000. Net profit of the company is Rs.25000 The proportion between net profit and sales of the company is 1:4. The rationale of ratio analysis lies in the fact that it makes related information comparable. A single figure by itself has no meaning but when expressed in terms of a related figure, it yields significant inferences.
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3.4 Importance of Ratio analysis:

1) Profitability: Accounting ratio help to measure the profitability of the business by calculating the various profitability ratios. It helps the management to know about the earning capacity of the business concern. In this way profitability ratios show the actual performance of the business. 2) Operating efficiency: Ratio analysis helps to workout the operating efficiency of the company with the help of various turnover ratios. All turnover ratios are worked out to evaluate the performance of the business in utilizing the resources. 3) Helpful for forecasting purposes: Accounting ratios indicate the trend of the business. The trend is useful for estimating future. With the help of previous years ratios, estimates for future can be made. In this way these ratios provide the basis for preparing budgets and also determine future line of action. 4) Short-term financial position: Ratio analysis helps to workout the short-term financial position of the company with the help of liquidity ratios. In case short-term financial position is not healthy efforts are made to improve it. 5) Analysis of financial statement: Ratio analysis help the outsiders just like creditors, shareholders, debenture-holders, bankers to know about the profitability and ability of the company to pay them interest and dividend etc. 6) Solvency: With the help of solvency ratios, solvency of the company can be measured. These ratios show the relationship between the liabilities and assets. In case external liabilities are more than that of the assets of the company, it shows the unsound position of the business. In this case the business has to make it possible to repay its loans. 7) Comparative analysis of the performance: With the help of ratio analysis a company may have comparative study of its performance to the previous years. In this way company comes to know about its weak point and be able to improve them. 8) Simplification of the accounting information: Accounting ratios are very useful as they briefly summarize the result of detailed and complicated computations. 9) Inter-firm comparison: Ratio analysis helps in inter-firm comparison by providing necessary data. An interfirm comparison indicates relative position. It provides the relevant data for the comparison of the performance of different departments. If comparison shows a variance, the possible reasons of variations may be identified and if results are negative, the action may be initiated immediately to bring them in line.
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3.5 Limitations of Ratio analysis:

1) False Results: Accounting ratios are based on data drawn from accounting records. In case that data is correct, then only the ratios will be correct. For example, valuation of stock is based on very high price, the profits of the concern will be inflated and it will indicate a wrong financial position. The data therefore must be absolutely correct. 2) Effect of Price Level Changes: Price level changes often make the comparison of figures difficult over a period of time. Changes in price affects the cost of production, sales and also the value of assets. Therefore, it is necessary to make proper adjustment for pricelevel changes before any comparison. 3) Qualitative factors are ignored: Ratio analysis is a technique of quantitative analysis and thus, ignores qualitative factors, which may be important in decision making. For example, average collection period may be equal to standard credit period, but some debtors may be in the list of doubtful debts, which is not disclosed by ratio analysis. 4) Effect of window-dressing: In order to cover up their bad financial position some companies resort to window dressing. They may record the accounting data according to the convenience to show the financial position of the company in a better way. 5) Misleading Results: In the absence of absolute data, the result may be misleading. For example, the gross profit of two firms is 25%. Whereas the profit earned by one is just Rs. 5,000 and sales are Rs. 20,000 and profit earned by the other one is Rs. 10,00,000 and sales are Rs. 40,00,000. Even the profitability of the two firms is same but the magnitude of their business is quite different. 6) Absence of standard university accepted terminology: There are no standard ratios, which are universally accepted for comparison purposes. As such, the significance of ratio analysis technique is reduced. 7) Costly Technique: Ratio analysis is a costly technique and can be used by big business houses. Small business units are not able to afford it. 8) Limited Comparability: Different firms apply different accounting policies. Therefore the ratio of one firm can not always be compared with the ratio of other firm. Some firms may value the closing stock on LIFO basis while some other firms may value on FIFO basis. Similarly there may be difference in providing depreciation of fixed assets or certain of provision for doubtful debts etc.
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3.6 CLASSIFICATIONS OF RATIOS

The use of ratio analysis is not confined to financial manager only. There are different parties interested in the ratio analysis for knowing the financial position of a firm for different purposes. Various accounting ratios can be classified as follows: 1. Traditional Ratio 2. Functional Ratio 3. Significance Ratio 1. Traditional ratio: Balance sheet (or) position statement ratio: They deal with the relationship between two balance sheet items, e.g. the ratio of current assets to current liabilities etc., both the items must, however, pertain to the same balance sheet. Profit & loss account (or) revenue statement ratios: These ratios deal with the relationship between two profit & loss account items, e.g. the ratio of gross profit to sales etc. Composite (or) inter statement ratios: These ratios exhibit the relation between a profit & loss account or income statement item and a balance sheet items, e.g. stock turnover ratio, or the ratio of total assets to sales. 2. Functional ratio: Liquidity ratios: These ratio deals with relationship between the current assets and liabilities of the company, e.g. the ratio of net working capital, it shows the available balance for working capital. Long term solvency: These ratio deals with the capacity of a company to discharge its obligation towards long term lenders indicate its financial strength and ensure its long term survival. Leverage ratios: A ratio used to measure a company's mix of operating costs, giving an idea of how changes in output will affect operating income. Fixed and variable costs are the two types of operating costs; depending on the company and the industry, the mix will differ. Activity ratios: Activity ratios measure company sales per another asset account the most common asset accounts used are accounts receivable, inventory, and total assets. Activity ratios measure the efficiency of the company in using its resources. Since most
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companies invest heavily in accounts receivable or inventory, these accounts are used in the denominator of the most popular activity ratios. Profitability ratios: The profitability ratios are used to measure how well a business is performing in terms of profit. The profitability ratios are considered to be the basic bank financial ratios. 3. Significance ratio: Some ratios are important than others and the firm may classify them as primary and secondary ratios. The primary ratio is one, which is of the prime importance to a concern. The other ratios that support the primary ratio are called secondary ratios.
3.7 Guideline for the use of Ratio

The calculation of ratios may not be a difficult task but their use is not easy. Following guidelines or factors may be kept in mind while interpreting various ratios are calculated: 1. Accuracy of Financial statement: The financial statement of the company should show the true figures of the companys operations. Each and every income or expenses should be recorded according to their accounting standards. 2. Objective or purpose of analysis: The purpose of analysis should be defined properly so that it make the analysis more detailed and accurate for the company. 3. Selection of ratios: The selection of ratio which the company has to calculate must be confirmed first of all. According to that analysis has been done in the company. The selection must be done properly. 4. Use of standards: For the proper results of ratio analysis, the accounting standards and the information taken from the financial statement should be very clear and true. 5. Caliber of the analysis: The ratio which company is going to find must match the criteria of the analysis in the company.
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3.8 Types of the ratio: 3.8.1 Activity ratio:

Activity ratios measure company sales per another asset accountthe most common asset accounts used are accounts receivable, inventory, and total assets. Activity ratios measure the efficiency of the company in using its resources. Since most companies invest heavily in accounts receivable or inventory, these accounts are used in the denominator of the most popular activity ratios.
Activity ratio is the indicator of how rapidly a firm converts various accounts into cash or sales. In general, the sooner management can convert assets into sales or cash, the more effectively the firm is being run. Companies will typically try to turn their production into cash or sales as fast as possible because this will generally lead to higher revenues. Such ratios are frequently used when performing fundamental analysis on different companies. The asset turnover ratio and inventory turnover ratio are good examples of activity ratios. Types of activity ratios are as follows:1. Raw materials turnover 2. Work-in-progress turnover 3. Debtor turnover ratio 4. Fixed asset turnover ratio 5. Total asset turnover ratio 6. Working capital turnover ratio 7. Capital turnover ratio 8. Cash conversion cycle
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1. Raw materials turnover: Raw material turnover = __Cost of raw material used ___ Average raw material inventory This gives basic idea about how company uses its raw material or other inventories for generating more profit in the present competitive industrial market. The cost of material used the important factor in this ratio. 2. Work in progress turnover: Work in progress turnover = Cost of goods manufactured ___ Average work in progress inventory A firm should have neither too high nor too low inventory turnover. To avoid this stock out cost associated with a high ratio and the costs of carrying excessive inventory with a low ratio, what is suggested is a reasonable level of this ratio. The firm would be advised to maintain a close watch on the trend of the ratio and significant deviations on either side should be thoroughly investigated to locate the factors responsible for it. For the purpose of that this two ratios can be found. 3. Debtor turnover ratio: Debtor turnover ratio = Credit sales Average debtors + Average bills receivable The major activity ratio is the receivables or debtors turnover ratio. Allied and closely related to this is the average collection period. It shows how quickly receivables or debtors are converted into cash. The debtors turnover ratio is a test of liquidity of the debtors of a firm. The debtors turnover ratio shows the relationship between credit sales and debtors of a firm. The approach requires two types of data: Credit sales Average debtors
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4. Fixed asset turnover ratio: Fixed asset turnover ratio = _Cost of goods sold_ Average fixed assets The fixed-asset turnover ratio measures a company's ability to generate sales from fixed-asset investments - specifically property, plant and equipment (PP&E) - net of depreciation. A higher fixed-asset turnover ratio shows that the company has been more effective in using the investment in fixed assets to generate revenues. This ratio is often used as a measure in manufacturing industries, where major purchases are made for PP&E to help increase output. When companies make these large purchases, prudent investors watch this ratio in following years to see how effective the investment in the fixed assets was. 5. Total asset turnover ratio: Total asset turnover ratio = _Cost of goods sold_ Average total assets Total asset turnover ratio measures a firm's efficiency at using its assets in generating sales or revenue - the higher the number the better. It also indicates pricing strategy: companies with low profit margins tend to have high asset turnover, while those with high profit margins have low asset turnover. The amount of sales generated for every rupee's worth of assets. It is calculated by dividing cost of sales in rupee by assets in rupee.
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6. Working capital turnover ratio: Working capital turnover ratio = _Cost of goods sold_ Net working capital A measurement comparing the depletion of working capital to the generation of sales over a given period. This provides some useful information as to how effectively a company is using its working capital to generate sales. A company uses working capital (current assets - current liabilities) to fund operations and purchase inventory. These operations and inventory are then converted into sales revenue for the company. The working capital turnover ratio is used to analyze the relationship between the money used to fund operations and the sales generated from these operations. In a general sense, the higher the working capital turnover, the better because it means that the company is generating a lot of sales compared to the money it uses to fund the sales. 7. Capital turnover ratio: Capital turnover ratio = __ _Net sales_____ Capital employed Capital turnover ratio measures the efficiency of the capital invested in the business and how many times capital is generated into sales. Higher the ratio, better the efficiency of utilization of capital and it would to higher profitability for the company in the market. It establishes a relation between sales and capital employed in the business.
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8. Cash conversion cycle: Cash conversion cycle = Inventory outstanding + Sales outstanding + Payables outstanding Cash conversion cycle expresses the length of time, in days, that it takes for a company to convert resource inputs into cash flows. The cash conversion cycle attempts to measure the amount of time each net input rupee is tied up in the production and sales process before it is converted into cash through sales to customers. This metric looks at the amount of time needed to sell inventory, the amount of time needed to collect receivables and the length of time the company is afforded to pay its bills without incurring penalties. It is also known as "cash cycle".
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3.8.2 Capital budgeting ratio: The act of placing restrictions on the amount of new investments or projects undertaken by a company. This is accomplished by imposing a higher cost of capital for investment consideration or by setting a ceiling on the specific sections of the budget. Companies may want to implement capital rationing in situations where past returns of investment were lower than expected. Capital budgeting ratios are useful to assist management and owners in diagnosing the financial health of their company, ratios can also help managers make decisions about investments or projects that the company is considering to take, such as acquisitions, or expansion. Many formal methods are used in capital budgeting, including the techniques such as: 1. Net present value 2. Profitability index 3. Internal rate of return 4. Modified rate of return 5. Equivalent annuity
1. Net present value: Net present value = Cash flows of the year Initial investment The difference between the present value of cash inflows and the present value of cash outflows. NPV is used in capital budgeting to analyze the profitability of an investment or project. NPV analysis is sensitive to the reliability of future cash inflows that an investment or project will yield. NPV compares the value of a rupee today to the value of that same rupee in the future, taking inflation and returns into account. If the NPV of a prospective project is positive, it should be accepted. However, if NPV is negative, the project should probably be rejected because cash flows will also be negative.
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2. Profitability index: Profitability index = Present value of future cash flows Initial investment Profitability index is also known as profit investment ratio (PIR) and value investment ratio (VIR), is the ratio of payoff to investment of a proposed project. It is a useful tool for ranking projects because it allows you to quantify the amount of value created per unit of investment.
Rules for selection or rejection of a project: If PI > 1 then accept the project If PI < 1 then reject the project A ratio of 1.0 is logically the lowest acceptable measure on the index. Any value lower than 1.0 would indicate that the project's PV is less than the initial investment. As values on the profitability index increase, so does the financial attractiveness of the proposed project. 3. Internal rate or return: The discount rate often used in capital budgeting that makes the net present value of all cash flows from a particular project equal to zero. Generally speaking, the higher a project's internal rate of return, the more desirable it is to undertake the project. As such, internal rate or return can be used to rank several prospective projects a firm is considering. Assuming all other factors are equal among the various projects, the project with the highest internal rate or return would probably be considered the best and undertaken first. Internal rate of return can also be compared against prevailing rates of return in the securities market. If a firm can't find any projects with internal rate of return greater than the returns that can be generated in the financial markets, it may simply choose to invest its retained earnings into the market.
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4. Modified rate of return: The formula adds up the negative cash flows after discounting them to time zero using the external cost of capital, adds up the positive cash flows including the proceeds of reinvestment at the external reinvestment rate to the final period, and then works out what rate of return would cause the magnitude of the discounted negative cash flows at time zero to be equivalent to the future value of the positive cash flows at the final time period.
The modified internal rate of return is a financial measure of an investment's attractiveness. It is used in capital budgeting to rank alternative investments of equal size. As the name implies, MIRR is a modification of the internal rate of return (IRR) and as such aims to resolve some problems with the IRR. 5. Equivalent annuity:
Equivalent annuity = __Net present value__ Present value factor
In finance the equivalent annuity is the cost per year of owning and operating an asset over its entire lifespan. Equivalent annuity is often used as a decision making tool in capital budgeting when comparing investment projects of unequal lifespan. Equivalent annuity is calculated by dividing the net present value of a project by the present value of an annuity factor. Equivalently, the net present value of the project may be multiplied by the loan repayment factor. The use of the equivalent annuity method implies that the project will be replaced by an identical project.
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3.8.3 Leverage ratios/Capital structure ratios:

Leverage ratio is used to measure a company's mix of operating costs, giving an idea of how changes in output will affect operating income. Fixed and variable costs are the two types of operating costs; depending on the company and the industry, the mix will differ. Leverage ratio used to calculate the financial leverage of a company to get an idea of the company's methods of financing or to measure its ability to meet financial obligations. There are several different ratios, but the main factors looked to include is debt, equity, assets and interest expenses. Companies with high fixed costs, after reaching the breakeven point, see a greater increase in operating revenue when output is increased compared to companies with high variable costs. The reason for this is that the costs have already been incurred, so every sale after the breakeven transfers to the operating income. On the other hand, a high variable cost company sees little increase in operating income with additional output, because costs continue to be imputed into the outputs. The degree of operating leverage is the ratio used to calculate this mix and its effects on operating income. The types of leverage ratios are as follows: 1. Debt-equity ratio 2. Debt-asset ratio 3. Equity asset ratio 4. Interest coverage ratio 5. Dividend coverage ratio 6. Total coverage ratio 7. Cash flow coverage ratio 8. Debt service coverage ratio 9. Net asset value
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1. Debt-equity ratio: Debt-equity ratio = Long term debt Shareholders equity Debt-equity ratio measures a company's financial leverage calculated by dividing its total liabilities by stockholders' equity. It indicates what proportion of equity and debt the company is using to finance its assets. It is also known as the Personal Debt/Equity Ratio, this ratio can be applied to personal financial statements as well as corporate ones. A high debt/equity ratio generally means that a company has been aggressive in financing its growth with debt. This can result in volatile earnings as a result of the additional interest expense. If a lot of debt is used to finance increased operations (high debt to equity), the company could potentially generate more earnings than it would have without this outside financing. If this were to increase earnings by a greater amount than the debt cost (interest), then the shareholders benefit as more earnings are being spread among the same amount of shareholders. However, the cost of this debt financing may outweigh the return that the company generates on the debt through investment and business activities and become too much for the company to handle. This can lead to bankruptcy, which would leave shareholders with nothing. The debt/equity ratio also depends on the industry in which the company operates. For example, capital-intensive industries such as auto manufacturing tend to have a debt/equity ratio above 2, while personal computer companies have a debt/equity of under 0.5. 2. Debt-asset ratio: Debt-asset ratio = Total liabilities Total assets Debt-asset ratio indicates what proportion of the companys assets is being financed through debt. Debt-asset ratio is not a particularly exciting ratio, but it is useful one. Companies with high ratios are placing themselves at risk, especially in an increasing interest rate market. Creditors are bound to get worried if the company is exposed to a large amount of debt and
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may demand that the company pay some of it back. This ratio is very similar to the debtequity ratio. A ratio under 1 means a majority of assets are financed through equity, above 1 means they are financed more by debt. Further more you can interpret a high ratio as a "highly debt leveraged firm". 3. Equity-asset ratio: Equity-asset ratio = Total shareholders equity Total assets Equity-asset ratio is used to help determining how much shareholders would receive in the event of a company-wide liquidation. The ratio, expressed as a percentage, is calculated by dividing total shareholders' equity by total assets of the firm, and it represents the amount of assets on which shareholders have a residual claim. The figures used to calculate the ratio are taken from the company's balance sheet. The higher the ratio, the more shareholders may receive and lower the ratio, less the shareholders of the company will get against there holding of the numbers of equity shares. 4. Interest coverage ratio: Interest coverage ratio = Earnings before interest and tax Interest Interest coverage ratio is used to determine how easily a company can pay interest on outstanding debt. The interest coverage ratio is calculated by dividing a company's earnings before interest and taxes (EBIT) of one period by the company's interest expenses of the same period.
The lower the ratio, the more the company is burdened by debt expense. When a company's interest coverage ratio is 1.5 or lower, its ability to meet interest expenses may be questionable. An interest coverage ratio below 1 indicates the company is not generating sufficient revenues to satisfy interest expenses.
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5. Dividend coverage ratio: Dividend coverage ratio = Income after tax Dividend Dividend coverage ratio measures a company's ability to pay off its required preferred dividend payments. A healthy company will have a high coverage ratio, indicating that it has little difficulty in paying off its preferred dividend requirements. Not only does this ratio give investors an idea of a company's ability to pay off its preferred dividend requirements, but it also gives common shareholders an idea of how likely they are to be paid dividends. If the company has a hard time covering its preferred dividend requirements, common shareholders are less likely to receive a dividend payment on their holdings. 6. Total coverage ratio: Total coverage ratio = Earnings before Interest and taxes + Lease payment Interest + Lease payment + (Preference dividend+ Installment of principal)/(1Tax rate) While the interest coverage and preference dividend coverage ratios consider the fixed obligations of a firm to the respective suppliers of funds, that is, creditors and preference shareholders, the total coverage ratio has wider scope and takes into account all the fixed obligations of a firm which are as follows: Interest on loan Preference dividend Lease payments Repayment of principal
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7. Total cashflow coverage ratio: Total cashflow coverage ratio = EBIT + Lease payments + Depreciation + Non cash expenses Lease payment + Interest + Principal Repayment + Preference dividend (1 Tax rate) (1 Tax rate)
Total cashflow coverage ratio would be more appropriate to relate cash resources of a firm to its various fixed financial obligations. The overall ability of a firm service outside liabilities is truly reflected in the total cashflow coverage ratio. The higher is the coverage, the better is the ability. 8. Debt service coverage ratio: Debt service coverage ratio = Earnings after tax + Interest + Depreciation Installment In corporate finance, it is the amount of cash flow available to meet annual interest and principal payments on debt, including sinking fund payments. A DSCR of less than 1 would mean a negative cash flow. A DSCR of less than 1, say 0.95, would mean that there is only enough net operating income to cover 95% of annual debt payments. For example, in the context of personal finance, this would mean that the borrower would have to delve into his or her personal funds every month to keep the project afloat. Generally, lenders frown on a negative cash flow, but some allow it if the borrower has strong outside income.
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9. Net asset value: Net asset value = Equity share holders funds Number of equity shares Net asset value measures the net worth or net asset value per equity share. It thus seeks to assess as to what extent the value of equity share of a company contributed at par or at a premium has grown or the value has been created for the shareholders. It is also known as net worth per share or book value per share. This ratio indicates the efficiency of the company management in building up a back-up of reserves and surplus to fall back upon. Higher the ratio, higher is the capacity of a company to raise further capital, borrowed as well as equity. It is ratio which is widely prevalent and used for the purpose of valuations.
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3.8.4 Liquidity ratio:

The importance of adequate liquidity in the sense of the ability of a firm to meet current or short term obligations when they become due for payment can hardly be overstressed. In fact, liquidity is a prerequisite for the very survival of a firm. The short-term creditors of the firm are interested in the short term solvency or liquidity of the firm. But liquidity implies from the viewpoint of utilization of the funds of the firm, that funds are idle or they earn very little. A proper balance between two contradictory requirements, that is, liquidity and profitability is required for efficient financial management. The liquidity ratios measure the ability or a firm to meet its short term obligations and reflect the short term financial strengths of a firm. Generally, the higher the value of the ratio, the larger the margin of safety that the company possesses to cover short-term debts. A company's ability to turn short-term assets into cash to cover debts is of the utmost importance when creditors are seeking payment. Bankruptcy analysts and mortgage originators frequently use the liquidity ratios to determine whether a company will be able to continue as a going concern. Some analysts will calculate only the sum of cash and equivalents divided by current liabilities because they feel that they are the most liquid assets, and would be the most likely to be used to cover short-term debts in an emergency. The types of liquidity ratios are as follows: 1. Current ratio 2. Quick ratio 3. Suppliers credit 4. Inventory holding period 5. Collection period allowed to customers 6. Inventory turnover ratio 7. Defensive interval ratio
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1. Current ratio: Current ratio = Current assets Current liabilities Current ratio is the liquidity ratio that measures a company's ability to pay short-term obligations. The ratio is mainly used to give an idea of the company's ability to pay back its short-term liabilities (debt and payables) with its short-term assets (cash, inventory, receivables). The higher the current ratio, the more capable the company is of paying its obligations. A ratio under 1 suggests that the company would be unable to pay off its obligations if they came due at that point. While this shows the company is not in good financial health, it does not necessarily mean that it will go bankrupt - as there are many ways to access financing - but it is definitely not a good sign. The current ratio can give a sense of the efficiency of a company's operating cycle or its ability to turn its product into cash. Companies that have trouble getting paid on their receivables or have long inventory turnover can run into liquidity problems because they are unable to alleviate their obligations. Because business operations differ in each industry, it is always more useful to compare companies within the same industry. This ratio is similar to the acid-test ratio except that the acid-test ratio does not include inventory and prepaid as assets that can be liquidated. The components of current ratio (current assets and current liabilities) can be used to derive working capital (difference between current assets and current liabilities). Working capital is frequently used to derive the working capital ratio, which is working capital as a ratio of sales. 2. Quick ratio: Quick ratio = _Current assets Inventory Current liabilities B.O.D Quick ratio is an indicator of a company's short-term liquidity. The quick ratio measures a company's ability to meet its short-term obligations with its most liquid assets. The higher the quick ratio, the better the position of the company. The quick ratio is more conservative than the current ratio, a more well-known liquidity measure, because it excludes inventory from current
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assets. Inventory is excluded because some companies have difficulty turning their inventory into cash. In the event that short-term obligations need to be paid off immediately, there are situations in which the current ratio would overestimate a company's short-term financial strength. It is also known as the "acid-test ratio" or the "quick assets ratio". 3. Suppliers credit: Suppliers credit = Amount payable Days in a year Credit Purchases This ratio measures the average credit period availed by the company from its suppliers on credit purchases or how much leverage it possesses to settle its outstanding payables. It is also known as Days Purchases in payables ratio. The ratio helps analysts understand the credit policy extended to a company by its suppliers which allowed the credit to its customers. As mentioned above, a company enjoying a longer but extending a shorter period stands to gain and a successful company as manifest in its return on net worth will be able to attract quality suppliers at terms favourable to it. It gives the view point for analysis to the suppliers of the company. 4. Inventory holding period: Inventory holding period = Inventory Days in the year Cost of goods sold Inventory holding period is the average number of days it takes for a firm to sell a product it is currently holding as inventory to consumers. High inventory holding period can indicate that a firm is not properly managing its inventory or that it has a substantial amount of goods that are proving difficult to sell.
The higher a firms inventory holding period, the greater its exposure to obsolescence risk, the risk that the accumulated products will lose value in a soft market. Inventory holding period is critical in industries with rapid sales and product cycles. If a firm is unable to move inventory, it will take an inventory write-off charge, meaning that the products were not equivalent to their stated value on a firms balance sheet.
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5. Inventory turnover ratio: Inventory turnover ratio = Cost of goods sold Average inventory Inventory turnover ratio shows how many times a company's inventory is sold and replaced over a period. A low turnover implies poor sales and, therefore, excess inventory. A high ratio implies either strong sales or ineffective buying. High inventory levels are unhealthy because they represent an investment with a rate of return of zero. It also opens the company up to trouble should prices begin to fall. 6. Collection period allowed to customers: Collection period allowed = Amount receivables Days in the year Credit sales Collection period allowed to the customers measures the credit period allowed to the customers on credit sales or how fast a company realizes its outstanding dues. It is also known as Days Sales in Receivables Ratio. The ratio helps analysts understand the credit period extended by a company to its customers which the credit enjoyed from its suppliers. A company extending a shorter and enjoying a longer periods stands to gain. 7. Defensive interval ratio: Defensive interval ratio = _ Liquid assets _
Projected daily cash requirement The liquidity position of a firm should also be examined in relation to its ability to meet projected daily cash requirement from operations. The defensive interval ratio provides such a measure of liquidity. It is ratio between quick assets or liquid asset and the projected daily cash requirements.
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The projected daily cash operating expenditure is based on past expenditures and future plans. It is equivalent to the cost of goods sold excluding depreciation, plus selling and administrative expenditure and other ordinary cash expenses. Alternatively, a very rough estimate of cash operating expenses can be obtained by subtracting the non-cash expenses like depreciation and amortization from total expanses. Liquid assets include current assets excluding inventory and prepaid expenses.
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3.8.5 Profitability ratio:

Every firm is most concerned with its profitability. One of the most frequently used tools of financial ratio analysis is profitability ratios which are used to determine the company's bottom line. Profitability measures are important to company managers and owners alike. If a small business has outside investors who have put their own money into the company, the primary owner certainly has to show profitability to those equity investors. Profitability ratios show a company's overall efficiency and performance. We can divide profitability ratios into two types: margins and returns. Ratios that show margins represent the firm's ability to translate sales dollars into profits at various stages of measurement. Ratios that show returns represent the firm's ability to measure the overall efficiency of the firm in generating returns for its shareholders. Profitability ratios are a class of financial metrics that are used to assess a business's ability to generate earnings as compared to its expenses and other relevant costs incurred during a specific period of time. For most of these ratios, having a higher value relative to a competitor's ratio or the same ratio from a previous period is indicative that the company is doing well. Types of profitability ratios are as follows: 1. Gross profit margin 2. Net profit margin 3. Operating profit ratio 4. Dividend pay-out ratio 5. Earning yield 6. Dividend yield 7. Return on share holders equity 8. Earning per share 9. Price earning ratio 10. Return on capital employed 11. Return on assets 12. Expenses ratio 13. Effective tax rate 14. Return on net worth 15. Cash earning per share
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1. Gross profit ratio: Gross profit ratio = Gross profit 100 Sales The gross profit margin looks at cost of goods sold as a percentage of sales. This ratio looks at how well a company controls the cost of its inventory and the manufacturing of its products and subsequently pass on the costs to its customers. The larger the gross profit margin, the better for the company. When analyzing a company, gross profit is very important because it indicates how efficiently management uses labor and supplies in the production process. More specifically, it can be used to calculate gross profit margin. Gross profit ratio is also known as gross margin or gross income ratio. Gross profit is a company's residual profit after selling a product or service and deducting the cost associated with its production and sale. Higher the ratio, higher the margin of profit is available in the company. 2. Net profit ratio: Net profit ratio = Net profit 100 Sales Net profit is the ratio of profitability calculated as net income divided by revenues, or net profits divided by sales. It measures how much out of every rupee of sales a company actually keeps in earnings. It is also known as Net Profit Margin. Looking at the earnings of a company often doesn't tell the entire story. Increased earnings are good, but an increase does not mean that the profit margin of a company is improving. For instance, if a company has costs that have increased at a greater rate than sales, it leads to a lower profit margin.
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3. Operating profit ratio: Operating profit ratio = EBIT 100 Sales Operating profit is also known as EBIT and is found on the company's income statement. EBIT is earnings before interest and taxes. The operating profit margin looks at EBIT as a percentage of sales. The operating profit margin ratio is a measure of overall operating efficiency, incorporating all of the expenses of ordinary, daily business activity. The profit earned from a firm's normal core business operations is operating income. This value does not include any profit earned from the firm's investments (such as earnings from firms in which the company has partial interest) and the effects of interest and taxes.
4. Dividend pay-out ratio: Dividend payout ratio = Dividend per ordinary share Earning per share Dividend is the amount of earnings paid out in dividends to shareholders. Investors can use the payout ratio to determine what companies are doing with their earnings. The payout ratio also indicates how well earnings support the dividend payments: the lower the ratio, the more secure the dividend because smaller dividends are easier to pay out than larger dividends. For example, a very low payout ratio indicates that a company is primarily focused on retaining its earnings rather than paying out dividends. 5. Earning yield: Earning yield = Earning per share 100 Market value per share The possible upside of the earnings that could be generated for each share outstanding of a particular stock. Earning potential reflects the largest possible profit that a corporation can
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make. It is often passed on to investors in the form of dividends. Greater earning potential drives up the price of a stock. Although earning potential can cause a stock's price to rise, it will not necessarily translate into higher current dividends. A company that comes out with an innovative new product may have higher earning potential in the future, but the projected revenue may not translate into actual profit for some time. The earning yield is also known as earning price ratio. 6. Dividend yield: Dividend yield = Dividend per share 100 Market price of share Dividend yield is the financial ratio that shows how much a company pays out in dividends each year relative to its share price. In the absence of any capital gains, the dividend yield is the return on investment for a stock. Dividend yield is a way to measure how much cash flow you are getting for each rupee invested in an equity position - in other words, how much "bang for your buck" you are getting from dividends. Investors who require a minimum stream of cash flow from their investment portfolio can secure this cash flow by investing in stocks paying relatively high, stable dividend yields. 7. Return on share holders equity: Return on share holders equity = Net profit available for equity holders 100 Total share holders equity The Return on Equity ratio is perhaps the most important of all the financial ratios to investors in the company. It measures the return on the money the investors have put into the company. This is the ratio potential investors look at when deciding whether or not to invest in the company. Net income comes from the income statement and stockholder's equity comes from the balance sheet. In general, the higher the percentage, it shows that the company is doing a good job using the investors' money. If the percentage is low, it shows that the company is not using the money of the investors in the proper way.
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8. Earning per share: Earning per share = Net profit available to equity share holders Number of equity shares Earning per share is generally considered to be the single most important variable in determining a share's price. It is also a major component used to calculate the price-toearnings valuation ratio. The portion of a company's profit allocated to each outstanding share of common stock. Earning per share serves as an indicator of a company's profitability. When calculating, it is more accurate to use a weighted average number of shares outstanding over the reporting term, because the number of shares outstanding can change over time. However, data sources sometimes simplify the calculation by using the number of shares outstanding at the end of the period. 9. Price earning ratio: Price earning ratio = Market price per share Earning per share Price earning ratio is the valuation ratio of a company's current share price compared to its per-share earnings. EPS is usually from the last four quarters, but sometimes it can be taken from the estimates of earnings expected in the next four quarters. The P/E is sometimes referred to as the "multiple", because it shows how much investors are willing to pay per rupee of earnings. In general, a high P/E suggests that investors are expecting higher earnings growth in the future compared to companies with a lower P/E. However, the P/E ratio doesn't tell us the whole story by itself. It's usually more useful to compare the P/E ratios of one company to other companies in the same industry, to the market in general.
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10. Return on capital employed: Return on capital employed = Net profit after tax 100 Total capital employed Return on capital employed ratio indicates the efficiency and profitability of a company's capital investments. ROCE should always be higher than the rate at which the companies borrow; otherwise any increase in borrowing will reduce shareholders' earnings. A variation of this ratio is return on average capital employed (ROACE), which takes the average of opening and closing capital employed for the time period. Capital Employed is equal to Non-Current Debt and Equity provides obvious sources of long-term funding, but a further source is provided by the short-term debt that remains on the balance sheet at the year end. The sum of these sources of long-term funds is termed capital employed. 11. Return on assets: Return on assets = Net profit after taxes 100 Average total assets Return on assets ratio is measured in terms of the relationship between profits and ratios. The return on assets may also be called profit to asset ratio. There are various approaches possible to define net profits and assets, according to the purpose and intent of the calculation of the ratio. Depending upon how these terms are defined. The concept of net profit may be: 1. Net profit after tax 2. Net profit after taxes plus interest 3. Net profit after taxes plus interest minus tax savings
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The concept of assets may be: 1. Total assets 2. Fixed assets 3. Tangible assets The return on assets measures the profitability of the total funds of a firm. It doesnt throw light on the profitability of the different sources of funds which finance the total assets. 12. Expenses ratio: Expenses ratio are as follows: Cost of goods sold ratio = Cost of goods sold 100 Net sales Operating expenses ratio = (Administrative expenses + Selling expenses) 100 Net sales Administrative expenses ratio = Administrative expense 100 Net sales Selling expenses ratio = Selling expenses 100 Net sales Financial expenses ratio = Financial expenses 100 Net sales Another profitability ratio related to sales is the expenses ratios. It is computed by dividing expenses by sales. The term expenses include: 1. Cost of goods sold 2. Selling expenses 3. Financial expenses 4. Operating expenses 5. Administrative expenses Net sales of the company are calculated as follows: Total sales Sales return
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13. Effective tax rate: Effective tax rate = Current Income tax 100 Profit before tax This ratio measures the actual effective rate at which a company pays income tax on its profit before tax as against statutory rate of income tax. It takes into account only the current income tax provision and not deferred tax. The success of a management lies, among other things, in efficient tax planning and management. The ratio helps an analyst understand how efficiently a company is managing its tax liabilities in accordance with the law of the land. 14. Return on net worth: Return on net worth = Net income after tax Shareholders equity Return on net worth measures the rate of return on the ownership interest of the common stock owners. It measures a firm's efficiency at generating profits from every unit of shareholders' equity. It is also known as net assets or assets minus liabilities. Return on net worth shows how well a company uses investment funds to generate earnings growth. Return on net worth between 15% and 20% are considered desirable. Return on net worth is equal to a current years net income (after preferred stock dividends but before common stock dividends) divided by total equity (excluding preferred shares), expressed as a percentage. As with many financial ratios, return on net worth is best used to compare companies in the same industry. High return on net worth yields no immediate benefit. Since stock prices are most strongly determined by earning per share, you will be paying twice as much in book price for a 20% return on net worth. The benefit comes from the earnings reinvested in the company at a high return on net worth rate, which in turn gives the company a high growth rate.
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15. Cash earning per share: Cash earning per share = Profit after tax Dividend + Non-cash charges Average number of equity share Cash earning per share measure of financial performance that looks at the cash flow generated by a company on a per share basis. This differs from basic earnings per share (EPS), which looks at the net income of the company on a per share basis. The higher a companies cash EPS, the better it is considered to have performed over the period. A company's cash EPS can be used to draw comparisons to other companies or to the company's own past results. The point of cash EPS is that it's a stricter number than other variations on EPS because cash flow cannot be manipulated as easily as net income.
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Chapter 4: Data analysis and Interpretation
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1. Current ratio: Current ratio measures the ability of a company to discharge its day to day bills, current liabilities, as and when they fall due, out of cash or near cash, or current assets that if possesses. Formula of the current ratio: Current ratio = Current assets Current liabilities Calculation of the current ratio: Current ratio (2009) = 85081574 74951826 = 1.135 Current ratio (2010) = 63685137 47021449 = 1.354 Aid to decision-making: The ratio helps in studying the structure of the current assets and liabilities of the company with the objective of assessing its capacity to discharge its day to day obligations. Generally a company needs to possess adequate level of current assets over current liabilities to be able to do so. Strategic key point: 1. Proper asset liability management 2. Inventory holding 3. Credit period allowed from the suppliers 4. Credit period allowed to customers
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Chart for Current ratio:
Current ratio
1.4 1.35 1.3 Current ratio 1.25 1.2 1.15 1.1 1.05 1 2009 Year 2010
Interpretation: According to the analysis, the current ratio in year 2009 is 1.135 and in year 2010 is 1.354. This shows that there is the increase in the ratio of current assets to current liabilities. The analysis shows that in year 2009 company was able to pay a single rupee of liability with the help of one rupee and thirteen paisa. In year 2010, the ratio between current asset and liability became 1.354. It shows that company is now able to pay a single rupee of liability with the help of one rupee and thirty five paisa. In general, we can say that company has increased its position for the payment of liabilities of the company.
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2. Quick asset ratio: The quick ratio measures a company's ability to meet its short-term obligations with its most liquid assets. The quick ratio is more conservative than the current ratio, a more well-known liquidity measure, because it excludes inventory from current assets. Formula of the quick asset ratio: Quick asset ratio = _Current assets Inventory Current liabilities B.O.D Calculation of the quick asset ratio: Quick asset ratio (2009) = 85081574 15227354 74951826 = 0.93 Quick ratio (2010) = 63685137 20541512 47021449 = 0.92 Aid to decision making: The ratio is a further refinement of current ratio with together as well as more realistic properties. It adds further value to all the analytical values of current ratio. Care should be taken to exclude prepaid expenses, as they are not returnable in cash, sticky debtors, sticky loans and advances and current liabilities related to long term dealers deposits and long term suppliers credit. Strategic key drivers: 1. Developing part of long term fund into current asset. 2. Credit period allowed to the customers. 3. Credit period availed from the suppliers. 4. Inventory holding period.
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Chart of the quick ratio:
Quick asset ratio

1 0.95 0.9 0.85 0.8 0.75 0.7 0.65 0.6 2009 Year 2010
Interpretation: According to the analysis, the quick asset ratio for the year 2009 is 0.93 and the quick asset ratio for the year 2010 is 0.92. In this two year, the ratio between quick assets and quick liabilities is more in 2009. It shows that company is having more power to convert its assets or liabilities into cash in year 2009 in comparison of the year 2010. In year 2009, company was able to easily discharge its current liabilities out of cash or other current assets excluding inventory or prepaid expenses in comparison of the year 2010.
Quick ratio
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3. Inventory holding period: Inventory holding period is the average number of days it takes for a firm to sell a product it is currently holding as inventory to consumers. Inventory holding period is critical in industries with rapid sales and product cycles. Formula of the Inventory holding period: Inventory holding period = Inventory Days in the year Cost of goods sold Calculation of the Inventory holding period: Inventory holding period (2009) = 15227354 365 155617267 = 36 Days Inventory holding period (2010) = 20541512 365 113768618 = 66 Days Aid to decision making: An analyst needs to understand how fast a company is able to convert its inventory into cash so as to be able to study its liquidity. The inventory level need to be such that they allow a company to block minimum cash into them without the risk of servicing the customers promptly. Thus, a company needs to avoid excessive inventory build up. Unnecessarily excessive investment in inventories could otherwise be deployed into income generating assets to further strengthen the financial position of the particular company. Strategic key drivers: 1. Shorter production process 2. Fast product turnover 3. Supply chain management 4. Product delivery process
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Chart of the Inventory holding period:
Inventory Holding Period

70 65 60 55 50 45 40 35 30 25 20 2009 Year 2010 Inventory Holding Period
Interpretation: According to the analysis, the inventory holding period for the year 2009 is 36 days and the holding period for the year 2010 is 66 days. It shows that the holding period of the inventory is less as compared to year 2010 in 2009. From this we can easily say that company was able to convert its inventory into cash very fast in 2009 in comparison to 2010. This shows that company should not invest more money in inventories for the production purpose, because that generates more inventory holding cost.
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4. Gross profit ratio: Gross profit is a company's residual profit after selling a product or service and deducting the cost associated with its production and sale. The gross profit margin looks at cost of goods sold as a percentage of sales. Formula of the gross profit ratio: Gross profit ratio = Gross profit 100 Sales Calculation of the gross profit ratio: Gross profit ratio (2009) = 27131475 100 182748742 = 14.85% Gross profit ratio (2010) = 23911834 100 137680452 = 17.37% Aid to decision-making: The ratio enables study and assessment of business performance at different intermediate level. The enable an analyst to understand how the profit margins are behaving and moving towards the ultimate margin. An analyst can understand at which level the margin is under pressure so as to be able to address those areas. Strategic key drivers: 1. Quantitative growth in sales 2. Lower cost of borrowings 3. Utilization of resources
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Chart of the gross profit ratio:
Gross Profit Ratio

17.5 17 16.5 16 15.5 15 14.5 14 13.5 2009 Year 2010
Interpretation: According to the analysis, the gross profit ratio for the year 2009 is 14.85 and gross profit ratio for the year 2010 is 17.37. From this, we can say that company has increased its financial result from the year 2009 from the view point of gross profit. But because of decrease in sales, there is decline in the amount of gross profit shown in the financial statement. This is definitely not a good sign for the image of the company but company has done that many efforts to maintain the initial level of the gross profit margin. Because of this we can say that company is having good financial position in the industry.
Gross Profit
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5. Interest coverage ratio: Interest coverage ratio is used to determine how easily a company can pay interest on outstanding debt. The interest coverage ratio is calculated by dividing a company's earnings before interest and taxes (EBIT) of one period by the company's interest expenses of the same period. Formula of the Interest coverage ratio: Interest coverage ratio = Earnings before interest and tax Interest Calculation of Interest coverage ratio: Interest coverage ratio (2009) = _4964909_ 1288287 = 3.85 Interest coverage ratio (2010) = _8531611_ 1895254 = 4.50 Aid to decision making: The ratio helps in assessing whether a company is comfortably placed to service its interest obligations out of revenues it is generating. It creates the higher comfort level for the lenders. Strategic key drivers: 1. Return on net worth 2. Debt equity 3. Tenure of loans 4. Interest rates
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Chart of the Interest coverage ratio:
Interest Coverage Ratio
Interest Coverage Ratio
5.25 4.9 4.55 4.2 3.85 3.5 2009 Year 2010
Interpretation: According to the analysis, the interest coverage ratio of the company in year 2009 is 3.85 and the interest coverage ratio in the year 2010 is 4.50. It shows that company has maintained the initial level of coverage for the profit earning activity in comparison of the year 2009. We can say that in 2009, company was able to earn net profit of three rupee and eighty five paisa per single rupee of interest payment liability. In 2010, company has done necessary efforts to increase its financial position and earned a net profit of four rupee and fifty paisa per single rupee of interest payment liability. This shows the positive side of the companys good financial position.
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6. Fixed asset turnover ratio: The fixed-asset turnover ratio measures a company's ability to generate sales from fixed-asset investments - specifically property, plant and equipment (PP&E) - net of depreciation. A higher fixed-asset turnover ratio shows that the company has been more effective in using the investment in fixed assets to generate revenues. Formula of the Fixed asset turnover ratio: Fixed asset turnover ratio = _Cost of goods sold_ Average fixed assets Calculation of Fixed asset turnover ratio: Fixed asset turnover ratio (2009) = 155617267 19939189 = 7.80 Fixed asset turnover ratio (2010) = 113768618 21380913 = 5.32 Aid to decision making: Fixed assets are the income generating asset of a company. Naturally the more efficiently they are utilities, the more they contribute towards operating revenues and in turn more towards return on net worth. This ratio plays a very important role in improving the overall profitability and financial position of the company. Strategic key drivers: 1. Production efficiencies 2. Investment cost 3. Plant capacities 4. Pricing
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Chart of Fixed asset turnover ratio:
Fixed asset turnover

8 7 6 Fixed 5 asset 4 turnover 3 2 1 0 2009 Year 2010
Interpretation: According to the analysis, the fixed asset turnover ratio for the year 2009 is 7.80 and fixed asset turnover ratio for the year 2010 is 5.32. As the results shows, the amount of ratio of fixed asset turnover is decreased in the year 2010. Because of many reasons this may be happened. Proper utilization of the assets, physical life of the asset, policies regarding depreciation must be some of the reasons. In year 2009, company was having better position of investments to generate income from those of it in compared to 2010. So that, the companys financial position shows negative position of fixed asset or proper maintenance of the investments done by the company.
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7. Net asset value: Net asset value measures the net worth or net asset value per equity share. It thus seeks to assess as to what extent the value of equity share of a company contributed at par or at a premium has grown or the value has been created for the shareholders. It is also known as net worth per share or book value per share. Formula of the Net asset value: Net asset value = Equity share holders funds Number of equity shares Calculation for the Net asset value: Net asset value (2009) = 10784244 250000 = 43.14 Rs Net asset value (2010) = 23205235 560000 = 41.44 Rs Aid to decision making: The ratio indicates efficiency or otherwise of the company management in building up a backup of reserves and surplus to fall back upon. Prudent management of finances requires the ploughing back of net profit after paying dividends on equity. Strategic key drivers: 1. Return on net worth 2. Earning per share 3. Share premium 4. Reserves and surplus
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Chart of the Net asset value:
Net asset value

43.5 43 42.5 Net asset value 42 41.5 41 40.5 2009 Year 2010
Interpretation: According to the analysis, the net asset value of the company for the year 2009 is 43.14 and net asset value for the year 2010 is 41.44. Company has succeeded to maintain the profit level available to equity share holders. Company has maintained the net asset value per share with the increase in equity share holders fund. The number of equity share in the year 2009 was 250000. In the year 2010, the number of equity shares is 560000. There is very major change in the equity share number of the company. But company has improved its financial position through increase in profit margin earlier and also profit available to equity share holders of the company. This profit margin has helped company to earn better net asset value in comparison of year 2009.
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8. Earning per share: It is a major component used to calculate the price-to-earnings valuation ratio. The portion of a company's profit allocated to each outstanding share of common stock. Earning per share serves as an indicator of a company's profitability.
Formula of the Earning per share: Earning per share = Net profit available to equity share holders Number of equity shares Calculation of the Earning per share: Earning per share (2009) = 2801864 250000 = 11.21 Rs. Earning per share (2010) = 6121414 560000 = 10.93 Rs. Aid to decision making: This is the ratio most widely known and used across industries and capital markets. It is the first and foremost ratio that strikes the mind of shareholders and analysts while looking into the performance of a company. Strategic key drivers: 1. Net profit available to equity holder 2. Number of equity share 3. Return on net worth
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Chart of the Earning per share:
Earning Per Share

12 11.8 11.6 11.4 11.2 11 10.8 10.6 10.4 10.2 10 2009 Year 2010
Interpretation: According to the analysis, the earning per share of the company for the year 2009 is 11.21 and earning per share for the year 2010 is 10.93. Company has succeeded to maintain the profit level available to equity share holders. Company has maintained the earning per share with the increase in equity share. The number of equity share in the year 2009 was 250000. In the year 2010, the number of equity shares is 560000. There is very major change in the equity share number of the company. But company has improved its financial position through increase in profit margin earlier and also profit available to equity share holders of the company. This profit margin has helped company to earn better net asset value in comparison of year 2009. Earning per share is less from year 2009 in 2010, but because of increase in equity share there is small difference in earning per share.
Earning Per Share
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9. Inventory turnover ratio: Inventory turnover ratio shows how many times a company's inventory is sold and replaced over a period. A high ratio implies either strong sales or ineffective buying. Formula of the Inventory turnover ratio Inventory turnover ratio = Cost of goods sold Average inventory Calculation of Inventory turnover period: Inventory turnover period (2009) = 155617267 10313677 = 15.09 Inventory turnover period (2010) = 113768618 17884433 = 6.36 Aid to decision making: An analyst needs to understand how fast a company is able to convert its inventory into cash so as to be able to study its liquidity. The inventory level need to be such that they allow a company to block minimum cash into them without the risk of servicing the customers promptly. Strategic key drivers: 1. Shorter production process 2. Fast product turnover 3. Supply chain management 4. Product delivery process
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Chart of the Inventory turnover period:

Inventory turnover period
15.4 14.5 13.6 12.7 11.8 10.9 10 9.1 8.2 7.3 6.4 5.5 2009 Year 2010
Interpretation: According to the analysis, the inventory turnover period for the year 2009 is 15.09 and inventory turnover period for the year 2010 is 6.36. Companys cost of goods sold is decreased because of decrease in sales. In comparison of the year 2009, the inventory turnover period for the year 2010 is 6.36, which is less from the year 2009. It gives two type of results1) Effective purchasing of Inventories. 2) Increase in sales. Because of there is no increase in sales, one of the result for decreasing inventory turnover period should be effective purchase of Inventories. These saves money for other purpose and it shows the proper allocation of funds.
Inventory turnover period
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10. Price earning ratio: Price earning ratio is the valuation ratio of a company's current share price compared to its pershare earnings. It's usually more useful to compare the P/E ratios of one company to other companies in the same industry, to the market in general. Formula of the Price earning ratio: Price earning ratio = Market price per share Earning per share Calculation of Price earning ratio: Price earning ratio (2009) = __10__ 11.21 = 0.89 Price earning ratio (2010) = __10__ 10.93 = 0.92 Aid to decision making: Price earning ratio most important, most sought after and most widely prevalent valuation ratio. It is pre-eminently published in the media and talked about in the financial markets. An investor who wanted to invest in equity share will first find out the price earning ratio of the company. Strategic key drivers: 1. Earning per share 2. Size of the equity 3. Market conditions 4. Future prospects
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Chart of the Price earning ratio:
Price earning ratio

0.92 0.915 0.91 0.905 Price 0.9 earning ratio 0.895 0.89 0.885 0.88 0.875
2009
Year
2010
Interpretation: According to the analysis, the price earning ratio for the year 2009 is 0.89 and for the year 2010 is 0.92. The value of price earning ratio is less in year 2009 from the year 2010. It shows that the each share of the company is priced at 0.89 paisa/rupee in the year 2009 in the stock market of the country and each share of the company is priced at 0.92 paisa/rupee in the year 2010 in the stock market of the country. Higher the value of the price earning from each share, better the financial position of the company. So we can say that company has improved its financial position with the viewpoint price earning ratio in the year 2010.
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11. Return on assets: Return on assets ratio is measured in terms of the relationship between profits and ratios. The return on assets may also be called profit to asset ratio. There are various approaches possible to define net profits and assets, according to the purpose and intent of the calculation of the ratio. Formula of the Return on assets: Return on assets = Net profit after taxes 100 Average total assets Calculation of the return on assets: Return on assets (2009) = 3248108 100 103960046 = 3.12% Return on assets (2010) = 6748517 100 87586491 = 7.70% Aid to decision making: The return on assets measures the profitability of the total funds of a firm. It doesnt throw light on the profitability of the different sources of funds which finance the total assets. It gives the measurement of how much can a company earn from investing money in assets of the company. Strategic key drivers: 1. Amount invested in assets 2. Allocation on assets 3. Physical life of assets 4. Maintenance charges of assets
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Chart of Return on assets:
Return on assets ratio

9 8 Return on assets 7 6 5 4 3 2 1 0 2009 Year 2010
Interpretation: According to the analysis, the return on assets of the year 2009 is 3.12%. It shows that company got less return on their assets or less return on the amount invested. It means that company is not able to maintain the assets properly or the allocation of assets is not done properly. The return on assets of the year 2010 is 7.70%. As compared to the year 2009 there is a notable increase in the percentage on return on assets. It shows that company can is getting fair and good return on their assets. Company should do enough efforts to maintain this result for the good health of financial position.
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12. Dividend coverage ratio: Dividend coverage ratio measures a company's ability to pay off its required preferred dividend payments. A healthy company will have a high coverage ratio, indicating that it has little difficulty in paying off its preferred dividend requirements. Formula of the Dividend coverage ratio: Dividend coverage ratio = Income after tax Dividend Calculation of the Dividend coverage ratio: Dividend coverage ratio (2009) = 3248108 125000 = 25.98 Dividend coverage ratio (2010) = 6748577 280000 = 24.10 Aid to decision making: Not only does this ratio give investors an idea of a company's ability to pay off its preferred dividend requirements, but it also gives common shareholders an idea of how likely they are to be paid dividends. If the company has a hard time covering its preferred dividend requirements, common shareholders are less likely to receive a dividend payment on their holdings.
Strategic key drivers: 1. Dividend percentage 2. Number of share issued 3. Dividend policies
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Chart of the Dividend coverage ratio:
Dividend Coverage Ratio

26.9 26.7 26.5 26.3 26.1 25.9 25.7 25.5 25.3 25.1 24.9 24.7 24.5 24.3 24.1 23.9 2009 Year 2010
Interpretation: According to the analysis, the dividend coverage ratio of the year 2009 is 25.98. It shows that company is able to pay approximately 26 rupee to the single share of the company. It also shows that how better the company pays to its equity shareholders. The analysis of the year 2010 shows the ratio of the dividend coverage is 24.10. It shows that in 2010 company has fewer amounts to cover its dividend. That means company cant get proper & sufficient income in 2010 or it cant allot more money to its equity shareholders. Because of decline in dividend coverage ratio, share holders will not prefer more to invest in the company.
Dividend Coverage Ratio
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13. Operating profit ratio: The operating profit margin ratio is a measure of overall operating efficiency, incorporating all of the expenses of ordinary, daily business activity. The operating profit margin looks at EBIT as a percentage of sales. Formula of the operating profit ratio: Operating profit ratio = EBIT 100 Sales Calculation of the operating profit ratio: Operating profit ratio (2009) = 6253196 100 182748742 = 3.42% Operating profit ratio (2010) = 10426865 100 137680452 = 5.56% Aid to decision making: Operating profit ratio is calculated by dividing the operating net profit by sales. This ratio helps in determining the ability of the management in running the business. It gives the amount of profit after deducting all the major expenses of the company. It is the important ratio from the viewpoint of Financial analysis. Strategic key drivers: 1. Increase in sales 2. Reduction in expenses 3. Increasing profit margin
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Chart of the Operating profit ratio:

Operating Profit Ratio
Operating Profit Ratio 6 5.5 5 4.5 4 3.5 3 2009 Year 2010
Interpretation: According to the analysis, the operating profit ratio of the year 2009 is 3.42%. It shows that company was able to earn 3.42% of their sales amount for the purpose of operating profit. Company had earned the necessary amount of profit from the sales of the company after paying expenses of the company. The analysis of the year 2010 shows the ratio of operating profit is 5.56%. We can say that company has improved its financial position because the amount of sales had decreased from the year 2009, this does not affected the profit of the company and company was able to earn good profit from the past years.
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14. Net profit ratio: Net profit is the ratio of profitability calculated as net income divided by revenues, or net profits divided by sales. It measures how much out of every rupee of sales a company actually keeps in earnings. Formula of the net profit ratio: Net profit ratio = Net profit 100 Sales Calculation of the net profit ratio: Net profit ratio (2009) = 3248108 100 182748742 = 1.78% Net profit ratio (2010) = 6748517 100 137680452 = 4.90% Aid to decision making: This ratio enables study and assessment of business performance at different intermediate level. The enable an analyst to understand how the profit margins are behaving and moving towards the ultimate margin. An analyst can understand at which level the margin is under pressure so as to be able to address those areas. Strategic key drivers: 1. Profit margin 2. Reduction in expenses 3. Increase in sales
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Chart of the net profit ratio:
Net Profit Ratio

5 4.5 Net Profit Ratio 4 3.5 3 2.5 2 1.5 2009 Year 2010
Interpretation: According to the analysis, the net profit ratio of the year 2009 is 1.78%. It shows that in 2009 company earned less profit and spend more on the expenses of the company. In year 2009, company was having more sales than in the year 2010. The analysis of the year 2010 shows the ratio of net profit is 4.90%. As compared to the previous year its much better. It shows that company earned more profit and spent less and took company to the good condition. In 2010, the sales of the company were less as compare to the sales of the year 2009. But these does not effected to the profit of the company. Company had earned good profit to grow its financial position.
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15. Return on share holders equity: The Return on Equity ratio is perhaps the most important of all the financial ratios to investors in the company. It measures the return on the money the investors have put into the company. This is the ratio potential investors look at when deciding whether or not to invest in the company. Formula of the Return on share holders equity: Return on share holders equity = Net profit available for equity holders 100 Total share holders equity Calculation of the Return on share holders equity: Return on share holders equity (2009) = 2801864 100 10784244 = 25.98% Return on share holders equity (2010) = 6121414 100 23205235 = 26.38% Aid to decision making: This ratio is one of the most important ratios used for measuring the overall efficiency of a firm. As the primary objective of business is to maximize its earnings, this ratio indicates the extent to which this primary objective of businesses being achieved. Strategic key drivers: 1. Profit for equity holders 2. Earnings of the company 3. Market image of the company
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Chart of the share holders equity:
Return On Share Holder's Equity

Return On Share Holder's Equity
26.8 26.65 26.5 26.35 26.2 26.05 25.9 2009 Year 2010
Interpretation: According to the analysis, the return on shareholders equity of the year 2009 is 25.98%. It shows that an investor can get approximately 26% return on their investment. It shows that company is able to earn to pay fair and good amount of profit to its equity shareholders. The analysis of the year 2010 shows the ratio of the return on shareholders equity is 26.38%. As compare to 2009, company has able to earn good profit in the comparison of year 2009. So that we can say that company has improved its financial position and having good returns on the shareholders equity.
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16. Return on capital employed: Return on capital employed ratio indicates the efficiency and profitability of a company's capital investments. ROCE should always be higher than the rate at which the companies borrow; otherwise any increase in borrowing will reduce shareholders' earnings.
Formula of the Return on capital employed: Return on capital employed = Net profit after tax 100 Total capital employed Calculation of Return on capital employed: Return on capital employed (2009) = 3248108 100 16568488 = 19.60% Return on capital employed (2010) = 6748577 100 40810470 = 16.54% Aid to decision making: Return on capital employed is considered to be the best measure of profitability in order to assess the overall performance of the business. It indicates how well the management has used the investment made by owners and creditors into the business. It is commonly used as a basis for various managerial decisions.
Strategic key drivers: 1. Profit margin 2. Invested amount 3. Allotment of invested amount
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Chart of the Return on capital employed:
Return On Capital Employed

20 19.5 19 18.5 18 17.5 17 16.5 16 2009 Year 2010
Interpretation: According to the analysis, the return on capital employed ratio of the year 2009 is 19.60%. It shows that company is able to return approximate 20% of their borrowings. That shows the sound position of the company in the year 2009. The analysis of the year 2010 shows the ratio of the return on capital employed is 16.54%. It shows that company is not able to pay at least 20% of their borrowings comparing to the year 2009. Comparing to previous year, less percentage in return on capital employed shows lack of proper management and lack of sound financial position.
Return On Capital Employed
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17. Earning yield: Earning yield is the possible upside of the earnings that could be generated for each share outstanding of a particular stock. Earning potential reflects the largest possible profit that a corporation can make. Formula of the Earning yield: Earning yield = Earning per share 100 Market value per share Calculation of the Earning yield: Earning yield (2009) = 11.21 100 10 = 112.1% Earning yield (2010) = 10.93 100 10 = 109.3%
Aid to decision making: Earning yield is a great financial ratio which can be used very effectively to evaluate a stock. The significance of using Earning Yield to evaluate a share is that it helps investors to know whether a share is over valued or are available at a bargain price. Strategic key drivers: 1. Earning per share 2. Equity share capital 3. Fluctuations in share prices
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Chart of the earning yield:
Earning Yield
112.9 112.4 111.9 111.4 110.9 110.4 109.9 109.4 108.9 2009 Year 2010
Interpretation: According to the analysis of the year 2009, the ratio of earning yield is 112.1%. It shows that a company can earn more than 10 rupees, which is the basic face value of each share. That shows the good impression and better goodwill in the market of the company. The analysis of the year 2010 shows the ratio of earning yield is 109.3%. It shows that company can earn more than 10 rupees. But as compare to the year 2009, earning on each share is less than the 2009, but there is a little change in earning yield and there is the major increase in number of share. So because of this increase in number of shares, company has to bear this loss of decline in earning yield.
Earning Yield
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18. Dividend payout ratio: The dividend payout ratio indicates how well earnings support the dividend payments. Dividend is the amount of earnings paid out in dividends to shareholders. Investors can use the payout ratio to determine what companies are doing with their earnings. Formula of the dividend payout ratio: Dividend pay-out ratio = Dividend per ordinary share Earning per share Calculation of Dividend payout ratio: Dividend payout ratio (2009) = _0.50_ 11.21 = 0.044 Dividend payout ratio (2010) = _0.50_ 10.93 = 0.045 Aid to decision making: This ratio is relevant for capital providers but especially important for preference shareholders. Preference shareholders have a preferred right to receive dividends over normal equity shareholders. The dividend payout to equity shareholders is at the discretion of the management but in case of preference shareholders, the dividend payout is a compulsory. Strategic pay drivers: 1. Dividend policy 2. Rate of dividend 3. Trend of Dividend percentage
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Chart of the Dividend payout ratio:
Dividend payout ratio

0.045 0.0448 0.0446 Dividend 0.0444 payout 0.0442 ratio 0.044 0.0438 0.0436 0.0434 2009 Year 2010
Interpretation: According to the analysis, the dividend payout ratio of the year 2009 is 0.044. It shows that the company is able to pay dividend nearer to 4.40%, which is the normal payment on each share. That shows the good profit of the company or earnings of the company. The analysis of the year 2010 shows that the ratio of dividend payout is 0.045. It shows that in the year of 2010, company also pays nearer to 4.50%, which is 0.001 more paisa than the year 2009. That shows that company got good profit and they give fair return to their investors.
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CONCLUSIONS
After the analysis of Financial Statements, the companys financial position seems to be better in comparison of the previous year. This improvement in position is because of following ratios: Current ratio Gross profit ratio Return on assets Price earning ratio Operating profit ratio Net profit The company profit is increased in comparison of the year 2009. The company sales are decreased in the year 2010 in comparison of the year 2009, because of this company has to do necessary efforts to maintain its sales level and earn more profit. It is a good sign of the company to earn more profit in comparison to the previous year when there is also the decrease in sales amount. Company has properly maintained its fixed assets for generating more revenues from the invested amount. This also shows the positive side of companys good financial position. Company is paying fair dividend amount to its equity share holders. This shows that company is earning good returns on their business. The companys overall position is at a good position. Particularly the current years position is well due to raise in the profit level from the last year position. It is better for the organization to diversify the funds to different sectors in the present market scenario. Company is also having good returns on equity share. This creates a good image of the company in the present market. This can create a good appreciation in increase in sales or demand of the share in the market.
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LIMITATION OF THE STUDY
1) Due to privacy reasons and company policy I was not allowed to conduct the survey. 2) I only got limited amount of information from the company and so could not mention about it in detail. 3) The information and data presented in report is collected through secondary means only. 4) The use of statements and related accounts of expenses and incomes did not provide all the information because of which each and every analysis was not able to be done. 5) Each and every necessary information for the purpose of analysis was not able to collect from the statements or books of accounts.

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REFERENCES
Books: 1. Financial accounting for management( Ambrish Gupta ) 2. Management accounting( M Y Khan, P K Jain ) Websites: 1. Investopedia.com 2. Wikipedia.org 3. Scribd.com 4. Management study guide.com Other important references: 1. Balance sheet/ Profit and loss account 2. Other financial statement( Cash flow statement, Tax planning statement) 3. Audit reports 4. Ledger of expenses and incomes
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Analysis of Financial Statement (Kaushal Mehta)

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A SUMMER INTERNSHIP REPORT ON ANALYSIS OF FINANCIAL STATEMENT

Submitted to L.J. Institute of Engineering and Technology

Submitted on: 14th July 2011 Submitted by:

Kaushal .R. Mehta Enrollment number-107280592017 Batch No.: 2010-12

Date: Place: Signature of the student

Date: Place: Signature of the faculty guide

TABLE OF CONTENTS Sr.No.

Analysis of Financial Statement

Chapter 1: Study of Industry

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1.4 Company profile

Main objective : To win total Quality satisfaction from

Management: Product: Scope :

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Fuel For Above Systems: OIL / GAS / SOLID FUEL

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SOME OF OUR HIGHLIGHTED CUSTOMERS:

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1.11 APPLICATION OF THERMOTECH PRODUCTS

Thermotechs products are widely used in following industries:

CHEMICALS TEXTILE GARMENTS LEATHER

PLYWOOD PAINT RUBBER PAPER

SOLAR FOOD DISTILLERY AUTO

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Chapter 2: Research methodology

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2.2 Elements of Financial statement:

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Chapter 3: Ratio Analysis

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Equivalent annuity = Net present value Present value factor