La historia constitucional

A Ratio is an expression by accounting relationship between two numbers. It may also be defined as relationship of one amount to another. It is one number from another. Accounting Ratio are relationships expressed in mathematical terms between figures which are related with each other. They indicate the quotient of two mathematical expressions.

Ratios may be expressed in percentages or in terms of “Times”. They facilitate better comparison when compared to absolute figures. Therefore they are used as one of the techniques of Financial Analysis. They help to understand the financial position and performance of enterprise in a better manner.

TRADITIONAL FUNCTIONAL

 Profit and Loss Ratio

 Balance Sheet Ratio

 Composite Ratio

LIQUIDITY RATIO ACTIVITY RATIO PROFITABILITY LEVERAGE &

SOLVENCY TYPES OF

RATIOS

RAJIV GANDHI INSTITUTE OF TECHNOLOGY Page 36 I. LIQUIDITY RATIOS [SHORT TERM SOLVENCY RATIOS]:

Liquidity refers to the ability of a concern to meet its current obligations as and when they become due.

The following are the important liquidity Ratios:

1. Current Ratio

It is the ratio of current Assets to current Liabilities. It is also known as Working Capital Ratio. It helps to understand relationship between total current assets and total current liabilities.

A ratio equal or near to the rule of thumb of 2:1 is considered as a standard for this ratio.

2. Liquid Ratio or Acid Test Ratio:

It is the ratio of liquid assets to liquid liabilities. Liquid Assets usually include all the current assets except inventories and pre – paid expenses. Liquid liabilities usually refer to current liabilities less bank overdraft. The standard for this ratio is 1:1

3. Absolute Liquidity Ratio:

This ratio establishes the relationship between the sum of cash

It represents cash in hand, cash at bank and other marketable securities and their relationship with the liquid assets. This ratio is used as supplement to current ratio to assess short term financial position of an enterprise.

The standard for this ratio is 0.5:1.

 Current Ratio

RAJIV GANDHI INSTITUTE OF TECHNOLOGY Page 37 II. ACIVITY AND TURNOVER RATIOS:

1. Receivables or Debtors Turnover Ratio:

This ratio explains the relationship between the net credit sales and the average accounts receivables. A high ratio indicates efficiency in the collection function and a lower ratio signifies inefficiency or liberal credit policy.

2. Creditors Turnover Ratio:

This ratio is similar to debtor’s turnover ratio. It signifies credit period enjoyed by the firm in paying the creditors.

3. Inventory Turnover Ratio:

It indicates the relationship between cost of sales and average inventory at cost. It also helps to understand whether the investments are within limits or otherwise. It explains the rate at which inventories are converted into sales and then into cash. A Stock turnover ratio of 8 times in a year is considered to be ideal.

4. Fixed Assets Turnover Ratio

This ratio explains the relationship between the costs of goods sold and fixed assets. It explains the efficiency with which fixed assets have been used in generating sales and better profits. The Standard or ideal fixed assets turnover ratio is 5 times

III. PROFITABILITY RATIO:

1. Net Profit Ratio:

It is the ratio of Net Income or Net Profit after taxes to Net Sales. This ratio is expressed as a percentage. It helps to measure overall profitability of the concern and useful to owners. It indicates the efficiency as well as profitability.

2. Return on Shareholders investments or Net worth or Proprietors Funds

This ratio explains the relationship between the Net Profit after interest and tax to share holder’s funds. Share holders funds include equity capital, preference capital, reserves and surplus, and profit and loss account minus the accumulated losses. The standard or ideal ratio is about 13%.

RAJIV GANDHI INSTITUTE OF TECHNOLOGY Page 38 3. Return on Equity Capital:

This ratio explains the relationship between Net Profit after interest, tax & Preference dividend and the Equity share capital. It helps the owners measure the returns on their investments. This ratio indicates the profits finally available to equity share holders. The standard or ideal return on capital employed ratio is about 15%.

4. Earning Per Share [EPS]

It is calculated by dividing net profit after tax, interest and preference dividend by the number of equity shares. It indicates the earning power of company and facilitates comparison between earning capacity of one company with another company belonging to the same industry.

IV. LEVERAGE RATIOS OR LONG TERM SOLVENCY RATIOS :

Leverage ratios indicate the relative interests of the owners and the creditors in an enterprise. They measure the state of the creditors as against the owners and they portray the long - term solvency of the concern.

1. Debt – Equity Ratio :

This ratio is calculated to measure the relative claims of outsiders and the owners against the firm’s assets. The standard or ideal debt-equity ratio is 2:1

2. Proprietary Ratio or Equity Ratio :

This ratio expresses the relationship between net worth or equity and total assets.

Generally, a ratio of 5:1 is considered to be ideal.

3. Fixed Assets to Net worth Ratio :

The ratio establishes the relationship between fixed assets and shareholder’s funds. The Standard or ideal fixed assets to net worth ratio for an industrial undertaking is 67%, it should not constitute more than 67%.

4. Capital gearing Ratio :

Capital gearing ratio is the ratio which expresses the relationship between fixed interest-bearing securities and fixed dividend-bearing shares and equity capital.

5. Interest Coverage Ratio :

RAJIV GANDHI INSTITUTE OF TECHNOLOGY Page 39 It is the ratio between net profits and fixed charges. Net profit means net profit before deducting fixed charges and income- tax. Fixed charges mean interests on long-term loans and deposits and debentures. The standard or ideal fixed charges cover is 6 times..

INTRODUCTION TO TREND ANALYSIS OR TREND PERCENTAGES :

Trend percentages if a technique of studying financial statements of a company over a number of years. It compares the past data over a period of time with a base year, under this method the percentages relationship that each financial statement item of each year bears to the same item in the base year is calculated.

Advantages of trend percentages :

 Trend percentages analysis is of immense use in making a comparative analysis over a series of years.

 It is easy to identify changes and interpret the same because percentage figures disclose more than the absolute figures.

 Trend analysis is extremely helpful in budgeting, forecasting etc.