.gregglee.biz/ftp/student/Finance/index.

htm Synopsis Ratio Analysis

The main objective of the Project Report is Find the Ratio Analysis of company. And sub objectives of this report is understand the Meaning of Ratio, Pure Ratio or Simple Ratio, Advantages of Ratio Analysis, Limitations of Ratio Analysis, classification of Ratio, Liquidity Ratio, Profitability Ratio or Income Ratio, Activity & Turnover Ratio, Return on Capital Employed Ratio analysis is one of the techniques of financial analysis to evaluate the financial condition and performance of a business concern. Simply, ratio means the comparison of one figure to other relevant figure or figures. According to Myers , Ratio analysis of financial statement is study of relationship among financial factors in a business as disclosed by a single set of statements and a study of trend of these factors as shown in series of statements. There are various groups of people who are interested in analysis of financial position of a company. They use the ratio analysis is workout a particular financial characteristic of the company in which they are interested.

For Example, When we analysis financial statement ratio of Riyadh Furniture Ind. Ration analysis helps the various groups i n the following manner: 1. To workout the 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. To workout the solvency: With the help of solvency ratios, solvency of the company can be measure. These ratios show the relationship between the liabilities and assets. In case external liabilities are more than that 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. 3. Helpful in analysis of financial statement: Ration analysis help the outsiders just like creditors, shareholder, debenture-holders, bankers to know about the profitability and ability of the company to pay them interest and dividend etc. 4. Helpful in comparative analysis of performance: With the help of ration analysis a company 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. 5. To simplify the accounting information: Accounting ratios are very useful

as they briefly summaries the result of detailed and complicated computations. 6. To workout the operating efficiency: Ratio analysis helps to workout the operating efficiency of the company with the help of various turnover ratios. 7. To workout 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. 8. Helpful to 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 budget and determine future line of action.

Ratio analysis in view of its several limitations should be considered only as a tool for analysis rather than as an end in itself. The reliability and significance attached to ratios will largely hinge upon the quality of data on which they are based. They are as good or as bad as the data itself. Nevertheless, they are an important tool of financial analysis Hence, financial statement ratio analysis is very important for management of the company and stakeholder to know over all position of the company and make decision about future planning and investment.

Ratio analysis has been covered on an individual basis in the previous units. Use the table of contents on the left and look at the pages for individual ratios if you are not sure about any of them. This page simply gives an overall summary of the use and limitations of ratio analysis. In the questions section of the module there is a case study where you can practise all the knowledge gained in this unit so far. The case study is called Stortford Yachts and it also has the answers for you to see how you got on. Ratios are a powerful tool in the interpretation of the accounts and can discover issues and problems not immediately evident from the accounts and financial information provided in the annual report. The can provide the basis for inter-firm comparisons allowing managers to benchmark the performance and efficiency of the firm against its competitors. Trends can then be examined and analysed. Stakeholders may use ratios to support their decision making. Employees, for example may use profit ratios to support pay claims and creditors can use liquidity ratios to evaluate whether debts will be repaid. We have examined the purpose, layout and content of the balance sheet and profit and loss account. We have said that these documents contain a story of the business bit that this story is sometimes difficult to reveal. We need to find some way of bringing this information to life

and to provide answers to stakeholders on a whole series of questions about the performance, efficiency and liquidity of the business. We can do this through the use of financial ratios. A ratio is simply a mathematical relationship between one figure and another. Financial ratios are relationships between quantities taken from the accounts. Single balance sheets and profit and loss accounts tell us very little. If we are told that sales this year were $20m and profit rose to $5m, this information has limited meaning expressed as it is in absolute terms. What we want is some way to provide a relative comparison. Financial ratios offer a tool to do this, but are only of significant use when they are compared to other ratios. In practice, comparison will be between different years and between the firm and its competitors or industry averages (inter-firm comparisons). However, it is important that any comparison is between similar organisations. Comparing ratios of the local grocer's shop with multinational supermarkets will have little practical use. What we are hoping to reveal are trends in performance or contrasts with similar organisations that may require further analysis. Ratios should help decision-makers and provide the information to set future policy One of the most universally known ratios, the current ratio reflects the working capital position and indicates the ability of a business to pay its short-term creditors from the realisation of its current assets, without having to resort to selling any of its fixed assets. The current ratio is simply the ratio of all current assets to current liabilities. In other words:

Ideally the figure should always be greater than 1, which would indicate that there are sufficient assets available to pay liabilities, should the need arise. The general rule of thumb is that the figure should lie between 1.5 and 2.0. In other words, for every $1 of debts the firm will have between $1.50 and $2 in current assets to pay for this. The higher the figure the more liquid the business, but too high a figure may indicate that the firm is not investing sufficiently in higher earning assets. In retail and manufacturing it would be expected that the current ratio would fall between1.1 to 1.5. Generally where credit terms and large stocks are normal to the business, the current ratio will be higher than, for example, a retail business where cash sales and high stock turnover are the norm.