Ratio Analysis

CHAPTER RATIO ANALYSIS

I. PRELIMINARY: Financial Statements Analysis refers to draw meaningful interpretation of financial statements for parties demanding financial information. In this analysis user oriented approach is adopted instead of following the traditional proprietary approach. Traditionally and popularly the term Financial Statement means Balance-Sheet and Profit & Loss Account. The term financial statements is usually defined as, Statement that contains financial information. It does not merely consists of Annual Report, although for external users the major portion for the financial information comes from the annual report. Traditionally, the financial statements are prepared for the proprietors and the accounting aids for stewardship function. In recent years the concept of stewardship accounting has been changed for user oriented approach has emerged to fit the purpose of recipients of financial information. Prominent users of Financial Statements are: i. Owners or investors or shareholders ii. Creditors / debenture holders iii. Financial institutions/bankers iv. Trade unions/employees v. Finance executives vi. Management vii. Government/regulating agencies viii. Economists/security analysts Although all the above persons are interested in the financial information and operating results of an enterprise, the primary information that each seeks to obtain from these statements differ materially. Investors are primarily interested in earning capacity. Creditors (trade and financial) are primarily concerned with liquidity and ability to serve and redeem the debt within a specified period. Management is interested in evolving analytical tools that will measure costs, operational efficiency liquidity and profitability with the objective of taking appropriate decisions, for profit maximization. II. FINANCIAL RATIO ANALYSIS: Financial ratios measures relationship expressed in mathematical terms between figures which are connected with each other in significant manner. A ratio is a statistical yardstick that provides a measure of relationship between two financial figures. It is a process of determining, interpreting and presenting numerical relationships of items and group of items in the financial statements. Ratios are customarily presented in the following forms: -

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Ratio Analysis i.

The first is merely a quotient (Current Liabilities, Proprietors Funds: Total assets etc.) ii. Sometimes ratios are also expressed as rates which refer to ratios over a period of time (fixed assets turnover ratio, Inventory turnover ratio etc.) iii. Some ratios are presented by per cent. (Gross Profit Ratio, ROI, etc.) Ratio analysis is a process of analysis of the ratios in such a manner so that the management can take actions on off standard performances. The process of Financial Ratio Analysis can be segregated into: i. Working of Ratios ii. Interpretation of Ratios iii. Remedial actions on variances with the objective of improvement in efficiency CLASSIFICATION: Ratios may be classified on the following basis leading to somewhat overlapping categories: 1) Classification according to the statement from which ratios are derived: a. Balance Sheet Ratios b. Revenue Statement Ratios c. Inter-Statement or combined Ratios 2) Classification according to Importance: a. Primary Ratios b. Secondary Ratios 3) Functional Classification: a. Cash position ratios b. Liquidity ratios c. Working Capital ratios d. Capital Structure ratios e. Profitability ratios f. Debt Service coverage ratios g. Turnover ratios h. Other ratios

ANALYSIS
a. Cash Position: - i) Absolute cash ratio, ii) Cash to Total Assets Ratio, iii) Interval measures b. Liquidity: - i) Current ratio, ii) Quick ratio c. Working Capital: - i) Funds generated from operation to sales ratio, ii) Funds generated from operation to total assets ratio d. Capital Structure: - i) Owners equity to total equity ratio, ii) Debt equity ratio, iii) Financial Leverage, iv) Capital Gearing ratio, v) Fixed Assets to long term ratio, vi) Proprietary ratio e. Profitability Ratios: - i) Return on Investment (ROI), ii) Gross Profit ratio, iii) P/V ratio, iv) Net Profit ratio, v) Individual Expenses/Group Expenses to sales ratio, vi) Operating ratio, vii) Earning per share, viii) Earnings price ratio. CA Rahul P. Lohade 9595990044 RLs Professional Academy Accounts/IHM

Ratio Analysis

f. Debt Service Coverage: - i. Debt Service Ratio, ii. Interested Coverage Ratio. g. Turnover Ratio: - i. Capital turnover ratio, ii. Fixed assets turnover ratio, iii. Working Capital turnover ratio, iv. Inventory turnover ratios, v. Debtors turnover ratio, Debt collection period, vi. Creditors payment ratio, Creditors payment period. h. Other Ratios: - i. Appropriation ratios, ii. Ratios of financial quantitative data, iii. Purely quantitative ratios. 1) CASH POSITION RATIOS: Cash and Marketable securities constitute the most important reservoir, which a firm needs for meeting its daily operating expenses and other obligations. Sr. Ratio Formula Significance No. 1 Absolute Cash Cash + Marketable Securities Indication of ready cash Current Liabilities Ratio available to meet current liabilities Higher ratio indicates better liquidity position 2 Cash to total Cash + Marketable Securities Indication of composition of Assets Ratio Total Assets cash availability in total investment 3 Interval Cash + Marketable Securities Indication of time length that can Average Daily Cash Measures be covered by the available cash operating expenses to meet operating expenses Note: - Marketable Securities means the securities, which can be converted into cash at short notice. Quoted Investments are not necessarily marketable securities. 2) LIQUIDITY RATIOS: - Liquidity or Short term solvency means ability of the business to pay its short term liabilities. Inability to pay-off short term liabilities affects its creditability as well as its credit rating. Continuous default on the part of the business leads to bankruptcy. Eventually bankruptcy leads to sickness and liquidation. Cash position ratios may be supplemented for liquidity appraisal. Ratio Formula Significance Current Ratio Current Assets Current Liabilities Indication of availability of Current Assets to pay off Current liabilities. Higher the ratio, better the coverage 2 : 1 ratio is treated as standard ratio Ratio differs from industry to industry as well as with its policy Bill discounted/endorsed not appearing in the Balance-Sheet requires adjustment The ratio is also called as Working Capital or Solvency Ratio RLs Professional Academy Accounts/IHM

Sr. No. 1.

CA Rahul P. Lohade 9595990044

Ratio Analysis 2. Liquid Ratio or Quick Ratio Quick Assets Quick Liabilities

Indication of availability of quick assets to honour its immediate claims Higher the ratio better the coverage 1 : 1 ratio is treated as standard ratio Ratio differs from industry to industry as well as with policy The ratio is also known as Acid Test Ratio The ratio is also calculated as: Quick Assets Quick Liabilities Current Assets = Inventories + Trade receivables + Cash & Bank Balances + Marketable Securities + Advances to Material Suppliers + Pre-paid Expenses + Advance Income tax (in excess of provision) Current Liabilities = Trade Creditors + Creditors for Services + Short term loans + Bank overdraft/Cash credit + outstanding Expenses + Provision for taxation (net of advance tax) + Proposed dividend + Unclaimed dividend Quick Assets = Current Assets Inventories Note: - Often pre-paid expenses are not considered as Quick assets. Quick Liabilities = Current Liabilities Bank overdraft cash credit from Bank Note: - The liquidity ratios are sensitive to a number of factors, which must be taken into account, if dependable results are to be obtained. Some of these are given below: i. Large stock accumulation for seasonal trade or anticipated price rise or anticipated import ban ii. Turning of Contingent liabilities into current liabilities iii. Earmarking of Investments to redeem current liabilities iv. Large stock accumulation due to sudden obsolescence on account of new invention. 3) WORKING CAPITAL RATIOS: - Funds/Cash generation ability of business is necessary to be judged. Since accounting profit and fund generation differs, funds from operations or cash from operations seems to be true measure to judge the performance. Funds from operations are calculated on accrual basis adjusting non cash items. Cash from operations is based on cash concept, i.e., net operational cash receipts. Sr. Ratio Formula Significance No. 1. Funds generated Funds generated from Indication for funds/cash from operations Operations generated for every Re. 1 to sales ratio Sales Sale

CA Rahul P. Lohade 9595990044

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Ratio Analysis Sr. No. Ratio Formula

5 Significance

2.

Cash generated Cash generated from from operation Operations Sales to sales ratio Fund generated Funds generated from from operation operations to Total Assets Total Assets ratio (average)

Indication of funds/cash generated for every Re. 1 investment

Cash generated Cash generated from from operation operations to Total Assets Total Assets (average) Ratio 4) CAPITAL STRUCTURE RATIOS: - Capital structure ratios provide an insight into financial techniques used by business and focus on the long term solvency position. Sr. Ratio No. 1. Owners Equity to Total Equity ratio Formula Owners Equity Total Equity Significance

Indication of proportion of owners funds to total funds invested in the business. Higher the proportion of owners fund, lower is the degree of risk. 2. Debt Equity Ratio Long Term Debt The ratio is useful for deciding Equity upon the capital structure Lenders judge the standard borrowing capacity by normally considering the ratio as 2 : 1. Lending institutions now a days set their own norms considering the capital intensity and other factors. Indicator of financial leverage Owners Equity = Share Capital (Equity + Preference) + Reserves & Surplus/ (loss) External Equity = Outside liabilities (inclusive of current liabilities and provision) Note: - Often External equity means shareholders funds and long term borrowing only. Total Equity = Owners Equity + External Equity Sr. Ratio Formula Significance No. 3. Financial Leverage Earnings before Interest Inclusion of External Debt in the & tax capital structure create a leverage Earnings before tax i.e., increase chances of maximization of profits due to CA Rahul P. Lohade 9595990044 RLs Professional Academy Accounts/IHM

Ratio Analysis

4.

5.

6.

trading on Equity. Interest on loans has a benefit of tax shield. If return on capital employed (ROI) becomes equal to the interest rate, then leverage effect neutralizes. If ROI is less than interest rate, then leverage has adverse effect. This may happen due to higher rate of interest contracted for increase in Debt Equity ratio or on account of volatility of Income or both. The ratio is useful to show the Capital Gearing Long Term Debt + proportion of fixed interest Ratio Debentures (dividend) bearing capital to + Preference Share funds belonging to equity Capital shareholders Equity Share Capital + The ratio is complementary to Reserves & Surplus financial leverage losses & fictitious assets Fixed assets & core working Fixed Assets to long Fixed Assets capital are to be covered by long Long Term Funds term fund ratio term funds. There is no uniform standard ratio due to change in composition of fixed assets and current assets. The ratio should be less than one. If it is more than one, it means short term funds have been used to finance fixed assets. The ratio indicates proprietors Proprietary Ratio Proprietary funds Total Assets stake in total assets. Higher the ratio, lower the risk The ratio is similar to Owners Equity to Total Equity (Capital Structure Ratio) Debt Equity Ratio & Current ratio affects the proprietary ratio Proprietary Funds = Equity Share Capital + Preference Share Capital + Reserves & Surplus losses & fictitious assets

5) PROFITABILITY RATIOS: - Return on Investment (ROI) is the basic profitability ratio. It is an indicator of overall efficiency. = Net Operating Profit x 100 Capital employed CA Rahul P. Lohade 9595990044 RLs Professional Academy Accounts/IHM

Ratio Analysis Net operating Profit =

Rs. Net Profit as per Profit & Loss Account Add back: - 1. Interest on Long term loans & Debentures --2. Non operating & Abnormal Expenses & losses --3. Provision for taxation --Deduct: - Non operating & Abnormal Incomes & gains Net Operating Profit It is also a practice to calculate ROI, after considering Provision for tax. In that case Provision for tax will not be added back. Capital Employed: Equity Share Capital Preference Share Capital Reserves & Surplus Debentures & other long term loans Less: 1. Miscellaneous expenditure and losses 2. Non trade Investments

Rs. -------------

Rs. ----------Capital Employed

------

Notes: i. Intangible assets having no physical existence like goodwill, patents and trade marks should be included in the capital employed. But no fictitious asset should be included within Capital Employed. ii. It is more appropriate to work out the ratio on the basis of Average Capital Employed during the year. iii. ROI may calculated on the basis of shareholders capital employed: = Earnings available to Shareholders x 100 Shareholders Capital Employed One may also calculate ROI on the basis of equity shareholders capital employed = Earnings available to Shareholders x 100 Shareholders Capital Employed DU PONT CONTROL CHART: - Return on investment (ROI) represents the earning power of the company. ROI depends on two ratios: (a) Net Profit Ratio and (b) Capital Turnover Ratio. A change in any of these ratios will change the firms earning power. These two ratios are affected by many factors. A change in any of these factors will change these ratios also. The various factors affecting the ROI can be put through a chart given below. This chart is known as the Du Pont Control Chart since it was first used by Du Pont Company of the USA. The chart shows that return on capital employed is affected by a number of factors. Any change in these factors will affect the return on capital employed. For example, if the cost of goods sold increases, without any corresponding increase in the selling price of the goods, the net profit would decrease and consequently ROI would also decrease. Similarly, if there is, increase in working capital, the total capital

CA Rahul P. Lohade 9595990044

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Ratio Analysis

employed would increase and, therefore, in the absence of any increase in the net profit, ROI would decrease. The chart helps the management in concentrating attention on different forces affecting profit. An increase in profit can be achieved either by more effective use of capital which will result in a higher turnover ratio or better sales efforts which will result in a higher net profit ratio. The same rate of return can be obtained either by a low net profit ratio but a higher turnover ratio or a low turnover ratio but a high net profit ratio. ROI = Net Profit to Sales Ratio x Capital Turnover Ratio = Net Operating Profit x Sales x 100 Sales Capital Employed ROI = Return Capital Employed x 100

Profitability Ratio Return x 100 Sales Material Consumed x 100 Fixed Expenses x 100 Sales Sales

Capital Turnover Ratio Sales Capital Employed Fixed Assets Turnover Ratio Working Capital Turnover Ratio

Wages x 100 Sales

Variable Expenses x 100 Sales

Sales Fixed Assets

Sales Working Capital

Mfg. Exps. x 100 Turnover of Inventory Turnover Sales Individual Ratio Fixed Assets Admn.Exps. x 100 Sales Selling & Dist. Exp. x 100 Sales OTHER PROFITABILITY RATIOS Sr. Ratio Formula No. 1 Gross Gross Profit x 100 Profit Sales Ratio 2 P/V Ratio Sales Variable Cost x 100 Sales Or Contribution x 100 Sales

Debtors Turnover Ratio

Creditors Turnover Ratio

Significance Indication of gross margin available on Rs. 100 Sales Change in price levels or efficiency affects the ratio Higher P/V Ratio lowers Break Even Point Fixed cost remaining the same, higher P/V ratio leads to increase in ROI with increase in Sales RLs Professional Academy Accounts/IHM

CA Rahul P. Lohade 9595990044

Ratio Analysis 3 Net Profit Ratio or Operating Profit Ratio Individual Expenses or Group of Exps. to Sales Ratio Operating Ratio Net Operating Profit x 100 Sales

9 Indication of net margin of profit available on Rs. 100 Sales Sales (Gross or net) should be interpreted consistently Useful for reconciling deviation in net profit Useful for forecasting & budgeting

Individual Expenses/ Group of Expenses x 100 Sales

Operating Cost x 100 Sales

Earning Per Share (EPS)

Earnings available to Equity Shareholder No. of Equity Shares

Complementary to Net Profit or Operating Profit Ratio Operating Ratio = 100 Net Profit Ratio If share are not of same paid up valueEPS = Earnings available to Equity Shareholder No. of Equivalent Shares

EPS is the measure to relate the return to equity shareholders. Dividend per share (DPS) is also measured side by side. But dividend decision is outcome of many other considerations. Stock exchange prices fluctuates on the basis of EPS 7 Price Earning Ratio Average Equity Share Market Price EPS Indication of pay back period to the investor Price Earning Ratio may be calculated on the basis of DPS side by side. But since dividend decision is outcome of many other considerations, it is not a proper measure. One may calculate Earning price ratio = EPS x100 Average Equity Share Price

6) DEBT SERVICE COVERAGE: Financial institutions are interested in Debt Service Coverage to judge firms ability to pay off current interest and term loan installments. Sr. Ratio Formula Significance No. 1 Debt Earnings available for Ratio of 1.6 is treated by financial CA Rahul P. Lohade 9595990044 RLs Professional Academy Accounts/IHM

Ratio Analysis Service debt service Coverage Interest on Term Loans + Ratio or Term loan installments Debt Service Ratio Interest Earnings before Interest on Coverage Term Loan but after taxation Ratio Interest on Term Loans

10 institutions as satisfactory ratio Financial Institutions lend money even with lower Debt Service ratio in case of core/Infrastructural Projects

The ratio indicates adequacy of profit to cover interest Higher the ratio, more security to the lender Earnings available for debt service = Net Profit after taxation + Non Cash operating expenses like depreciation and other amortizations + Non operating adjustments + Interest on long term loans The ratio may be calculated with reference to following formula: N.P. before Interest & tax Fixed Interest i.e. Int. on term loan 7) TURNOVER RATIOS: - Higher return on investment depends on higher capital turnover apart from the profit margin per rupee of sales. These ratios indicates how efficiently the resources have been utilized during a particular period. Sr. No. 1 Ratio Capital Turnover Ratio Formula Sales Capital Employed Significance Overall indicator of utilization of resources In case of significant change, take Average Capital Employed Indicator of utilization of fixed assets In case of significant change, take Average Fixed Assets available for use In case of significant change, take Average Working Capital employed Stock holding ratio can be calculated as: Average Inventory Average daily or monthly cost of sales Opening + Closing Average Inventory = Inventory Inventory 2

1.1

Fixed Assets Turnover Ratio

Sales Fixed Assets

1.2

Working Capital Turnover Ratio

Sales Working Capital Cost of Goods Sold Average Inventory

1.2.1 Inventory Turnover Ratio

Raw Material Raw Material Consumed Average Raw Material Inventory Stock Turnover Ratio

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Ratio Analysis Sr. Ratio No. 1.2.2 Debtors Turnover Ratio Formula Credit Sales Average Accounts receivable Significance

11

Debtors Collection period 1.2.3 Creditors Turnover Ratio

Average accounts Receivable Avg. daily/monthly credit sales Credit Purchases Average A/c Payable

Accounts Receivable = S. Debtors + Bills Receivable Bills discounted/endorsed not appearing in the Balance Sheet requires adjustment Seasonal variations in sales affects ratio. In that case, scrutinize debtors with age wise analysis. Compare with credit period granted

Accounts Payable = Trade Creditors + Bills Payable The ratio is worked out with the revenue purchases

Average Accounts Payable Average daily/monthly credit purchases 8) OTHER RATIOS: - Apart from the financial ratios, some other ratios may also be computed to supplement the ratios covered earlier. Sr. No. 1 Ratio Appropriation Ratios Formula Interest EBIT Tax EBIT Pref. Dividend x 100 EBIT Transfer to Dividend
Equalization Fund x 100

Creditors Payment Period

Significance Indication of Disposal or appropriation of Income. These ratios are usually calculated with reference to EBIT

Dividend PayOut Ratio Dividend Coverage Ratio

EBIT Retained Earnings (out of current profits) x 100 EBIT Equity Dividend x 100 EBIT DPS x 100 EPS Earnings available for Distribution Preference Dividend

Indication of distribution of profit as per cent of Earning Indication of adequacy of profit to cover dividend on Preference Shares RLs Professional Academy Accounts/IHM

CA Rahul P. Lohade 9595990044

Ratio Analysis

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Sr. Ratio No. 2 Ratios of financial & Quantitative Data

Formula

Significance

Sales No. of employees Welfare Expenses per employee 3 Purely Quantitative Ratios Total Production No. of employees Input-Output or Yield Ratio Output (Units) Input of Raw Material Or Output (Units) x 100 Input of Raw Material III. LIMITATIONS OF FINANCIAL RATIOS: i. The primary data on which ratios are based must be absolutely reliable and non manipulated. ii. Differences in accounting policies, interpretation of financial terms and accounting periods make accounting data of two firms non-comparable as also the accounting ratios. Adjustments are necessary to sort out such differences. iii. There is no standard set of ratios. The problem can be sorted out by taking upper quartile value and lower quartile value along with median for each ratio within the industry. iv. Seasonal factors may influence financial data (i.e. resorting to favourable year-end adjustments) v. Window dressing can change the character of financial ratios. vi. In case of diversified product lines aggregate data cannot be used for interfirm comparisons. vii. Financial data are badly distorted by inflation. viii. Financial ratios are inter related, not independent. Viewed in isolation may lead to erroneous conclusions. Such inter dependence among the ratios can be taken care of through multi-variate analysis. ix. Timely ratio analysis provide clues but not conclusions. These are tools in the hands of experts for their own interpretations. ************ Production per employee Welfare Expenses Total No. of employees

CA Rahul P. Lohade 9595990044

RLs Professional Academy Accounts/IHM

Ratio Analysis

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PROBLEMS
1. The following are the summarized profit & Loss account of the Hind Products Ltd, for the year ending 31.12.1997 and the Balance Sheet as on that date: Profit & Loss Account Rs. To Opening Stock 99,500 By Sales To Purchases 5,45,250 By Closing Stock To Incidental expenses 14,250 To Gross Profit 3,40,000 Total 9,99,000 Total To Operating Expenses: By Gross Profit Selling & Distribution 30,000 By Non-operating Income Interest 3,000 Administration 1,50,000 Finance 15,000 1,95,000 Profit on Sale of shares 6,000 To Non-operating expenses Loss on sale of assets 4,000 To Net Profit 1,50,000 Total 3,49,000 Total Balance Sheet Liabilities Rs. Assets Rs. Issued Capital: Land & Building 1,50,000 2,000 Equity Shares of Rs. Plant & Machinery 80,000 100 each 2,00,000 Stock-in-Trade 1,49,000 Reserves 90,000 Sundry Debtors 71,000 Current Liabilities 1,30,000 Cash & Bank Balance 30,000 Profit & Loss A/c 60,000 Total 4,80,000 Total 4,80,000 From the above statement you are requested to calculate the following ratios and state the purpose they serve: i. Current Ratio ii. Operating Ratio iii. Stock Turnover iv. Return on Total Resources v. Turnover of Fixed Assets vi. 2. Following items appear in the accounts of ABC Ltd., as on 31st December 1996: Rs. Cash 48,600 Land & Building at cost 8,00,000 Deposits & Payments in advance 62,000 Stock 3,72,800 Trade Creditors 4,05,750 General Reserve 1,00,000 Debtors 5,23,000 CA Rahul P. Lohade 9595990044 RLs Professional Academy Accounts/IHM

Rs. 8,50,000 1,49,000

9,99,000 3,40,000

9,000

3,49,000

Ratio Analysis

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Bill Receivables Plant & Machinery at cost less depreciation Debentures Repayable 1996 (secured) Bank Overdraft Equity shares of Rs. 1 each Profit & Loss accounting balance Proposed Equity Dividend for 1996 (net) Trade Investments Provision for Taxation Dividend Reserve Bills Payable Net Sales for the year 1996 Net Profit for the year 1996 before taxation & dividends

22,600 5,44,000 2,50,000 52,000 10,00,000 2,17,000 86,250 20,000 1,24,000 1,40,000 18,000 21,82,000 3,27,830

The value of all fixed assets reflect current price levels and adequate depreciation has been provided. You are required to arrange the above items in the form in the form of a financial statement to show the following accounting ratios which should be stated: a. Return on Capital Employed b. Stock-Fixed assets c. Current Assets: Current Liabilities d. Sales-Debtors and Receivables You are also required to indicate briefly the significance of these ratios. 3. From the following information, make out a statement of Proprietors Fund with as many details as possible: a. Current Ratio 2.5 b. Liquid Ratio 1.5 c. Proprietory Ratio 0.75 (fixed assets/Proprietory fund) d. Working Capital Rs. 60,000 e. Reserve & Surplus Rs. 40,000 f. Bank Overdraft Rs. 10,000 g. There is no long term loan or fictious asset. 4. Debtors Velocity 3 months Creditors Velocity 2 months Stock Velocity 8 times Capital Turnover Ratio 2.5 times Fixed Assets Turnover Ratio 8 times Gross Profit Turnover Ratio 25% Gross profit in a year amount to Rs. 80,000. There is no long-term loan or overdraft. Reserves and surplus amount to Rs. 28,000. Liquid assets are Rs. 97,333.Clsoing stock of the year is Rs. 2,000 more than the opening stock. Bills receivables amount to Rs. 5,000 and Bills Payable to Rs. 2,000. Find out: CA Rahul P. Lohade 9595990044 RLs Professional Academy Accounts/IHM

Ratio Analysis (a) Sales (b) Sundry Debtors (c) Sundry Creditors (d) Closing Stock (e) Fixed assets (f) Proprietors Funds Make out the Balance Sheet with as many details as possible.

15

5. The following figures relate to the trading activities of Hind Traders Limited for the year ended 31st March 1997: Rs. Sales 5,20,000 Purchases 3,22,250 Opening Stock 76,250 Closing Stock 98,500 Sales Returns 20,000 Selling & distribution expenses Salaries 15,300 Advertising 4,700 Travelling 2,000 Administrative Expenses Salaries 27,000 Rent 2,700 Stationery 2,500 Depreciation 9,300 Other charges 16,500 Provision for Taxation 40,000 Non operating Income Dividend on shares 9,000 Profit on sale of shares 3,000 Non operating expenses Loss on Sales of Assets 4,000 You are required to: a. Arrange the above figures in a form suitable for analysis, and b. Show separately the following ratios: i. Gross profit ratio, ii. Operating ratio, iii. Stock Turnover Ratio --------------------------------------------------------------------------------------------------6. Following is the bridged Balance-Sheet of the consolidated Co. Ltd. as at 31.03.1996: BALANCE SHEET (AS ON 31ST MARCH 1996) Liabilities Rs. Assets Rs. Paid up share capital 5,00,000 Freehold Property 4,00,000 Plant & Machinery 2,50,000 Profit & Loss A/c 85,000 Depreciation 75,000 1,75,000 Current Liabilities 2,00,000 Stock 1,05,000 Debtors 1,00,000 Bank 5,000 Total 7,85,000 Total 7,85,000

CA Rahul P. Lohade 9595990044

RLs Professional Academy Accounts/IHM

Ratio Analysis

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From the following information you are required to prepare Profit & Loss Account and Balance Sheet as at 31st March 1997 a. The composition of the total of liabilities side of the Companys Balance Sheet as at 31st 1997 (the paid up share capital remaining the same as at 31st March 1996) Share Capital 50% Profit & Loss A/c 15% 7% Debentures 10% Creditors 25% The debentures were issued on 1st April 1996 interest being on 30th September 1996 & 31st March 1997. b. During the year ended on 31st March 1997 additional Plant & Machinery had been bought and a further Rs. 25,000 depreciation written off. Freehold property remained unchanged. The total fixed assets then constituted 60% of total fixed and current assets. c. The current ratio was 1.6 : 1. The quick assets ratio was 1 : 1. d. The debtors (four-fifths of the quick assets) to sales ratio revealed a credit period of two months. e. Gross Profit was at the rate of 15% of selling price and Return on Net Worth as at 31st March 1997 was 10%. Ignore taxation. 7. The following data has been abstracted from the annual accounts of a company: Rs. Lakhs Share Capital 20,00,000 equity shares of Rs. 10 each 200 General Reserves 150 Investments Allowances Reserve 50 15% Long Term Loan 300 Profit before Tax 140 Provision for Tax 84 Proposed dividends 10 Calculate from the above, the following ratios: a. Return on Capital employed and, b. Return on Net Worth 8. From the following annual statements of Pioneer Ltd., calculate the following ratios: a) Gross Profit Ratio, b) Current Ratio, c) Liquid Ratio, d) Debt-equity Ratio e) Return on Investment Ratio Trading & Profit & Loss A/c for the year ended 31.12.1997 Rs. To Material consumed: By Sales Opening Stock 9,050 Purchases 54,525 By Profit on sale of investments 63,575 Closing stock 14,000 49,575 By Interest on Investments To Carriage Inwards 1,425 To Office Expenses 15,000 CA Rahul P. Lohade 9595990044 RLs Professional Academy Accounts/IHM

Rs. 85,000 600 300

Ratio Analysis

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To Sales Expenses 3,000 To Financial Expenses 1,500 To Loss on Sale of Assets 400 To Net Profit 15,000 Total 85,900 Total Balance Sheet as on 31.12.1997 Liabilities Rs. Assets Rs. Share Capital Fixed Assets: 2,000 equity shares of Buildings 15,000 Rs. 10 each fully paid 20,000 Plant 8,000 23,000 Reserves 9,000 Current Assets: Profit & Loss A/c 6,000 Stock in Trade 14,000 Bank Overdraft 3,000 Debtors 7,000 Sundry Creditors: Bills Receivable 1,000 For expenses 2,000 Bank Balance 3,000 25,000 For other 8,000 10,000 Total 48,000 Total 48,000 ----------------------------------------------------------------------------------------9. Based on the following information of the financial ratios prepare Balance-Sheet of Star Enterprises Limited as on March 31st 1997. Explain your working & assumptions: Current Ratio 2.5 Liquidity Ratio 1.5 Net Working Capital Rs. 6,00,000. Stock turnover ratio 5 Ratio of Gross profit to sales 20% Turnover ratio to net fixed assets 2 Average debt collection period 2.4 months Fixed assets to net worth 0.80 Long term debt to Capital & Reserve 7/25 10. Following are the ratios relating to the trading activities of an organization: Debtors Velocity 3 months Stock Velocity 6 months Creditors Velocity 2 months Gross Profit Ratio 20% Gross profit for the year-ended 31.03.1997 was Rs. 5,00,000. Stock at the end of 1996-97 was Rs. 20,000 more than what it was at the beginning of the year. Bills payable and Receivable were Rs. 36,667 and Rs. 60,000 respectively. You are to ascertain the figures of: a) Sales, b) Sundry Debtors, c) Sundry Creditors and d) Stock -----------------------------------------------------------------------------------------------11. From the following information relating to a limited company, prepare a Statement of Proprietors Funds: a. Current Ratio 2 b. Liquid Ratio 1.5 c. Fixed Assets/Proprietory fund CA Rahul P. Lohade 9595990044 RLs Professional Academy Accounts/IHM

85,900

Ratio Analysis

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d. Working Capital Rs. 75,000 e. Reserves and Surplus Rs. 50,000 f. Bank overdraft Rs. 10,000 There were no long-term loans or fictitious assets. ------------------------------------------------------------------------------------------------12. Mr. T. Munim is made an offer by the promoters of Svargiya Enterprises Ltd. to invest in the project of the company by purchasing a substantial portion of the share capital. He is a promised good returns by way of dividends and capital appreciation. Mr. Munim desires that you compute the following ratios for financial analysis. Working should form part of your answer. a) Return on investment Ratio, b) Net Profit Ratio, c) Stock Turnover Ratio d) Current Ratio, e) Debt Equity Ratio The figures given to him are as under: Rs. 000 Sales 16,000 Raw materials consumed 7,800 Consumables 800 Direct Labour 750 Other Direct Expenses 480 Administrative Expenses 1,200 Selling Expenses 260 Interest 1,440 Fixed Assets 14,000 Income tax 50% Depreciation 700 Share Capital 5,000 Reserves & Surplus 1,500 Secured Term Loans 12,000 Unsecured Term Loans 1,500 Trade Creditors 3,350 Investments 400 Inventories 6,000 Receivables 3,700 Cash in Hand & bank 100 Provisions 650 Other current liabilities 200 ------------------------------------------------------------------------------------13. From the following information relating to Wise Limited, you are required to prepare its summarized Balance Sheet: a. Current ratio 2.5 b. Acid Test Ratio 1.5 c. Gross Profit/Sales Ratio 0.2 d. Net Working capital/Net worth ratio 0.3 e. Sales/Net Fixed Assets Ratio 2.0 f. Sales/Net worth Ratio 1.5 CA Rahul P. Lohade 9595990044 RLs Professional Academy Accounts/IHM

Ratio Analysis

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g. Sales/Debtors Ratio 6.0 h. Reserves/Capital Ratio 1.0 i. Net worth/long term loan ratio 20.0 j. Stock velocity 2 months k. Paid up share capital Rs. 10 Lakhs. --------------------------------------------------------------------------------------------14. Complete the following annual financial statements on the basis of Ratios given below: Profit & Loss A/c for the year ended 30th June 1997 Rs. To cost of goods sold 6,00,000 By Sales To operating expenses ---To Earnings before Interest & Tax ---Total Total To Debenture Interest 10,000 By Earnings before Interest & tax To Income Tax -To Net Profit ---Total Total Balance Sheet as on 30 June 1997 Liabilities Rs. Assets Rs. Net worth: Fixed Assets --Share Capital -Current Assets: Reserve & Surplus --Cash --10% Debentures --Stock ----Sundry Creditors 60,000 Debtors 35,000 Total Total a. Net Profit to Sales 5% b. Current Ratio 1.5 c. Return on Net worth 20% d. Inventory turnover 15 times (Based on cost of goods sold) e. Share Capital to Reserves 4:1 f. Rate of Income tax 50% --------------------------------------------------------------------------------------------15. The following information and data available to you: Debtors Velocity 3 months Creditors Velocity 2 months Stock Velocity 8 times Capital Turnover Ratio 2.5 times Fixed Assets Turnover Ratio 8 times Gross Profit Turnover Ratio 20% Gross profit in a year amount to Rs. 1,00,000. There is no long-term loan or overdraft. Reserves and surplus amount to Rs. 30,000. Closing stock of the year is Rs. 5,000 more than the opening stock. Ascertain the following: CA Rahul P. Lohade 9595990044 RLs Professional Academy Accounts/IHM

Rs. 20,00,000

---

Ratio Analysis

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(a) Sales, (b) Sundry Debtors, (c) Sundry Creditors, (d) Closing Stock (e) Fixed assets, (f) Proprietors Funds --------------------------------------------------------------------------------------------------16. Working capital of a company is Rs. 1,35,000 & current ratio is 2.5. Liquid ratio is 1.5 and the proprietory ratio is 75 Bank overdraft is Rs. 30,000. There are no long term loans and fictitious assets. Reserves and Surplus amount to Rs. 90,000 and the gearing ratio (Equity capital/Preference capital) is 2. From the above please ascertain the following: 1. Current assets 2. Current Liabilities 3. Net Block 4. Proprietory fund 5. Quick Liabilities 6. Quick Assets 7. Stock 8. Preference & equity capital Also draw the statement of proprietory fund. ------------------------------------------------------------------------------------------------17. From the following information of X Engineering Co. complete the proforma Balance Sheet if its sales are Rs. 16,00,000. Sales to Net worth 2.3 times Current Liabilities to Net worth 42% Total Liabilities to Net worth 75% Current Ratio 2.9 times Sales to Closing inventory 4.5 times Average collection period 64 days PROFORMA BALANCE SHEET Liabilities Rs. Assets Rs. Net worth Fixed Assets ? ? Long Term Liabilities Cash ? ? Current Liabilities Stock ? ? Sundry Debtors ? Calculation are to be made to the nearest rupee. ----------------------------------------------------------------------------------------------18. From the following ratios and further information given below, prepare a Trading & Profit & Loss A/c and a Balance Sheet of Mr. Green: a. Fixed Assets/Capital = 5/4 b. Fixed Assets Rs. 5,00,000 c. Capital/Liabilities = d. Net Profit/Capital = 1/5 e. Gross profit ratio = 25% f. Stock turnover ratio = 10 g. Fixed Assets/Total Current Assets = 5/7 h. Net profit to Sales = 20% i. Closing Stock = Rs. 50,000 Out of Current Assets, Sundry Debtors are Rs. 6,00,000. The balance represents Cash and Closing Stock. ----------------------------------------------------------------------------------------------19. Prepare working capital requirements from following information: Average collection period 60 days CA Rahul P. Lohade 9595990044 RLs Professional Academy Accounts/IHM

Ratio Analysis

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Average payment period 75 days Inventory holding period 90 days (Calculate with reference to cost of goods sold) Cash & Bank balance 2.5% of sales Sales Rs. 20,00,000 Gross Profit 25% Credit purchase 1/3 of cost of goods sold The company expects 50% sales increment during the next year. (Assume 1 year = 360 days) ------------------------------------------------------------------------------------------------20. (a) Indicate the important accounting ratios that would be used by each of the following: i. A long term creditor interested in determining whether his claim is adequately secured. ii. A Bank who has been approached by a company for short term loan/overdraft. iii. A shareholder who is examining his portfolio and who is to decide whether he should hold or sell his shares in a company. (b) Calculate the average collection period from the following details by adopting 360 days to an year: Average Inventory Rs. 3,60,000 Debtors Rs. 2,30,000 Inventory Turnover Ratio 6 Gross Profit Ratio 10% Credit sales to total sales 20% ------------------------------------------------------------------------------------------------21. From the following information and Ratios, prepare the Profit & Loss Account for the year ended 31st March 1997, and the Balance Sheet as on that date of M/s Stan & Co., an export company: Current Assets 3:2 Current Ratio 3.00 Acid Test Ratio 1.00 Financial Leverage 2.20 Earnings per Share (each of Rs. 10) 10.00 Book Value per Share 40.00 Average Collection Period 30 days (assume 360 days in the year) Stock Turnover Ratio 5.00 Fixed Asset Turnover Ratio 1.20 Total Liabilities to Net Worth 2.75 Net Working Capital Rs. 10.00 Lakhs Net Profit to Sales 10% Variable Cost 60% Long Term Loan Interest 12% Taxation Nil ------------------------------------------------------------------------------------------------CA Rahul P. Lohade 9595990044 RLs Professional Academy Accounts/IHM

Ratio Analysis 22. The Balance Sheet of Y Ltd. stood as follows as on: Liabilities Capital Reserves Loans Creditors & Other Current Liabilities 31.03.1997 Rs. 205 116 100 129 31.03.1996 Rs. 250 100 120 25 Assets Fixed Assets Less: Depreciation Investments Stock Debtors Cash/Bank Other Current Assets Misc. Expenditure

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(Rs. in Lakhs) 31.03.1997 31.03.1996 Rs. Rs. 400 300 140 100 260 200 40 30 120 100 70 50 20 20 25 25 60 70 595 495

Total 595 495 Total You are given the following information for the year ended 31.03.1997:

Rs. in Lakhs Sales 600 PBIT 150 Interest 24 Provision for Tax 60 Proposed Dividend 50 All figures given above are rupees in lakhs. From the above particulars calculate for the year 1996-97: i. Return on Capital Employed Ratio ii. Stock Turnover Ratio iii. Return on Net Worth Ratio iv. Current Ratio v. Proprietary Ratio --------------------------------------------------------------------------------------------------23. The Balance Sheets of Pilcom Ltd. for the last 3 years read as below: (Rs. In Lakhs) Sources 1995 1996 1997 Share Capital (shares of Rs. 10) 2,000 2,000 3,000 Share Premium 1,500 1,500 500 Reserves (after 10% dividend) 1,500 1,700 1,800 Long Term Loan 1,000 800 800 Total Sources 6,000 6,100 6,000 Represented by Fixed Assets 2,000 2,500 3,000 Less: Depreciation 700 950 1,250 Net 1,550 1,300 1,750 Capital Work-in-progress 900 800 700 Investments 200 200 200 Sub-total 2,650 2,300 2,650 CA Rahul P. Lohade 9595990044 RLs Professional Academy Accounts/IHM

Ratio Analysis Net Current Assets: Current Assets: Debtors Stocks Cash & Bank Others

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1,700 1,800 1,850 1,800 1,900 2,400 500 500 500 400 600 1,400 4,400 6,150 4,800 700 2,700 Current Liabilities 1,450 Working Capital 3,700 3,350 3,450 Total Assets 6,000 6,000 6,100 Sales 3,900 4,000 5,000 Sales excludes excise duty and sales tax at 20%. Calculate for the year 1996 & 1997: i. Fixed Assets Turnover Ratio. ii. Stock Turnover Ratio. iii. Debtors Turnover Ratio in terms of number of days sales. iv. Earnings per share. Briefly comment on the performance of the Company. -------------------------------------------------------------------------------------------------24. The following extracts of financial information relate to Curious Ltd.: Rs. in Lakhs st Balance Sheet as on 31 December 1997 1996 10 Share Capital 10 10 Reserves & Surplus 30 70 Loan Funds 60 100 90 Fixes Assets (Nets) 30 30 Current Assets: Stocks 30 20 Debtors 30 30 Cash & Bank Balances 10 20 Other Current Assets 30 10 100 80 30 20 Less: Currents Liabilities 60 Net 70 100 90 Total Assets 270 300 Sales (Rs. lakhs) i. Calculate, for the two years Debt-Equity Ratio, and Working Capital Turnover Ratio & ii. Find the sales volume that should have been generated in 1997 if the Company were to have maintained its Working Capital Turnover Ratio of 1996. --------------------------------------------------------------------------------------------

CA Rahul P. Lohade 9595990044

RLs Professional Academy Accounts/IHM

Ratio Analysis

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25. The following is the Balance Sheet of Sanjay, a small tractor as on 31.0.1996: (Figures in Rs. 000) Assets Rs. Fixed Assets 145 Stock 40 Debtors 50 Cash on Hand 5 Cash at Bank 10 Total 250 Total 250 A fire destroyed the accounting records as well as the closing cash of the trader on 31.03.1997. However the following information was available: Debtors and creditors on 31.03.1997 showed an increase of 20% as compared to 31.03.1996. Credited Period: i. Debtors: 1 Months ii. Creditors: 2 Months Stock was maintained at the same level throughout the year. Cash sales constituted 20% of total sales. All purchases were for credit only. Current Ratio as on 31.03.1997 was exactly 2. Total Expenses excluding depreciation for the year amounted to Rs. 2,50,000. Depreciation was provided at 10% on the closing value of fixed assets. Bank & cash transactions: i. Payments to creditors included Rs. 50,000 by cash. ii. Receipts from debtors included Rs. 5,90,000 by way of cheques. iii. Cash deposited into the Bank Rs. 1,20,000. iv. Personal drawings from Bank Rs. 50,000. v. Fixed Assets purchased and paid by cheques Rs. 2,25,000. You are required to prepare: The Trading & Profit & Loss Account of Sanjay for the year ended 31.03.1997 A Balance Sheet on that date. For your exercise, assume cash destroyed by fire is written off in the Profit & Loss Account. ************* Liabilities Capital Creditors Rs. 200 50

a. b. c. d. e. f. g. h. i.

a) b)

CA Rahul P. Lohade 9595990044

RLs Professional Academy Accounts/IHM