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Ratio Analysis Formula

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  • Last Updated : 15 Mar, 2022

Ratio analysis is a quantitative way of achieving wisdom into a company’s liquidity, working efficiency, and profitability by examining its monetary reports such as the balance sheet and income report. Ratio analysis is a cornerstone of fundamental equity research. This type of research is especially helpful to critics beyond an enterprise since their immediate reference of knowledge about an institution is its financial reports. Ratio analysis is slightly beneficial to corporate insiders, who have more suitable credentials to more elaborate on working knowledge about the association.

Liquidity Ratios

Liquidity ratios calculate a firm capability to spend off its short-term debts as they evolve owed, using the firm current or quick investments. Liquidity ratios retain the current ratio, quick ratio, and working capital ratio.

S.No.RatiosFormulas
1Current RatioCurrent Assets/Current Liabilities
2Quick Ratio

Quick Assets/Current Liabilities

Quick Assets = Current Assets – Inventory – Prepaid Expenses

3Absolute Liquid Ratio Cash + Marketable Securities/Current Liabilities

Profitability Ratios

These ratios tell how nicely a firm can develop earnings from its processes. Earnings margin, the yield on investments, the yield on equity, the yield on capital employed, and gross margin ratios are all instances of profitability ratios.

S.No.RatiosFormulas
1Gross Profit RatioGross Profit/Net Revenue of Operations × 100 
2Operating Cost RatioOperating Ratio = (Cost of Revenue from Operations + Operating Expenses)/Net Revenue from Operations ×100
3Operating Profit RatioOperating Profit/ Revenue from Operations × 100 
4Net Profit RatioNet profit/Revenue from Operations × 100
5Return on Investment RatioNet Profit After Interest  And Taxes/ Shareholders Funds or Investments  X 100
6Return on Capital Employed RatioNet Gain After Surcharges/ Gross Capital Employed X 100
7Earnings Per Equity ShareNet Gain After Surcharges & Preference Premium /No of Equity Shares
8Dividend Yield RatioPremium Per Equity Claim/Earning Per Equity Claim X 100
9Price Earnings RatioNet Gain after Taxation& Preference Premium / No. of Equity Share
10Dividend Yield RatioDividend Per Share/ Market Value Per Share X 100
11Price Earnings RatioDemand Expense Per Share Equity Claim/ Gaining Per Share X 100
12Net Profit to Net Worth RatioNet Profit after Surcharges/ Shareholders Net Worth X 100

Working Capital Ratios

“Working capital” is the capital you require to sustain short-term processes. It is this emphasis on the short term that indicates working capital from longer-term assets in fixed assets or R&D.

S.No.RatiosFormulas
1Inventory RatioNet Sales / Inventory
2Debtors Turnover Ratio Total Sales /  Account Receivables
3Debt Collection Ratio Receivables  x Months or days in a year / Net Credit Sales for the year
4Creditors Turnover RatioNet Credit Purchases / Average Accounts Payable
5Average Payment PeriodModerate Trade Creditors / Net Credit Purchases X 100
6Working Capital Turnover RatioNet Sales / Working Capital
7Fixed Assets Turnover RatioPrice of goods Traded / Whole Designated Assets
8Capital Turnover Ratio Cost of Sales / Capital Employed

Capital Structure Ratios

Both debt and equity can be located on the balance sheet. Corporation assets, also documented on the balance sheet, are bought with debt or equity. Capital structure can be a combination of a business’s long-term debt, short-term debt, joint-stock, and select stock. A firm balance of short-term debt versus long-term debt is believed when examining its capital structure.

S.No.RatiosFormulas
1Debt Equity RatioTotal Long Term Debts / Shareholders Fund
2Proprietary RatioShareholders Fund/ Total Assets
3Capital Gearing ratioEquity Allocation Funds / Specified Interest Bearing Funds
4Debt Service Ratio Net  Earnings Before Welfare & Taxations / Fixed Welfare Payments

Overall Profitability Ratio

The overall profitability ratio is also called return on investment. It shows the ratio of return on the whole capital employed in the enterprise. It is also named as retrieval on assets, return on capital employed.

S.No.RatiosFormulas
1Overall Profit Ability RatioNet Profit / Total Assets

Sample Problems

Problem 1: For a firm, some measurable terms are as follows:

Current Assets = Rs. 11971

Inventory = Rs. 8338

Current Liability = Rs. 8035

Find the value of the Quick ratio.

Solution: 

As given,

Current Assets = Rs. 11971

Inventory = Rs. 8338

Current Liability = Rs. 8035

And formula for quick ratio is:

QuickRatio = Totalcurrentratio−InventoryTotalCurrentLiabilities

QuickRatio = 11971−83388035

Quick ratio = 0.45

Problem 2: A company has a capital of Rs. 10, 00,000; its turnover is 3 times the capital and the margin on sales is 6%. What is the return on investment?

Solution:

Capital Turnover Ratio = Sales / Capital

                                3  = Sales / Rs. 10,00,000

                              Sales = Rs. 30,00,000

Rate of Return on Investment = (Gross Profit / Investment) × 100

                                               = (Rs.1,80,000 / Rs.10,00,000) × 100

                                               = 18%

                           Gross Profit = 6% of Rs.30,00,000

                                              = Rs. 1,80,000

Problem 3: The following is the Balance Sheet of a company as of 31st March:

LiabilitiesRs.AssetsRs.
Share Capital2,00,000Land and Buildings1,40,000
Profit & Loss Account30,000Plant and Machinery3,50,000
General Reserve40,000Stock 2,00,000
12% Debentures4,20,000Sundry Debtors1,00,000
Sundry Creditors1,00,000Bills Receivables10,000
Bills Payables50,000Cash at Bank40,000
 8,40,000 8,40,000

Calculate

  1. Current Ratio
  2. Quick Ratio
  3. Inventory to working capital
  4. Debt to Equity Ratio
  5. Proprietary Ratio
  6. Capital Gearing Ratio
  7. Current Assets to Fixed Assets

Solution:

1) Current Ratio = Current Assets / Current Liabilities

                           = Rs. 3,5,000 / Rs. 1,50,000

                           = 2.33 : 1

2) Quick Ratio = Liquid Assets / Liquid Liabilities 

                        = Rs. 1,50,000 / 1,50,000

                        = 1 : 1

3) Inventory to Working Capital = Inventory / Working Capital

                                                   = Rs. 2,00,000 / Rs. 2,00,000

                                                   = 1 : 1

     (Working Capital = Current Assets – Current Liabilities

                                 = Rs. 3,50,000 – Rs. 1,50,000

                                  = Rs. 2,00,000)

4) Debt to Equity Ratio = Long Term Debts / Shareholder’s Fund

                                      = Rs. 4,20,000 / Rs. 2,70,000

                                      = 1.56 : 1

5) Proprietary Ratio = Shareholder’s Fund / Total Assets

                                = Rs. 2,70,000 / Rs. 8,40,000

                                = 0.32 : 1

6) Capital Gearing Ratio = Fixed InterestBearing Securities / Equity Share Capital

                                       = Rs. 4,20,000 / Rs. 2,00,000

                                       = 2.1 : 1

7) Current Assets to Fixed Assets Ratio = Current Assets / Fixed Assets

                                                               = Rs. 3,50,000 / Rs. 4,90,000

                                                               = 0.71 : 1

Problem 4: From the following particulars found in the Trading, Profit and Loss Account of A Company Ltd., work out the operation ratio of the business concern:

TRADING ACCOUNT OF A COMPANY LTD.

                                       for the period ending December 31  

ExpensesRs.IncomeRs.
To Opening Stock1,400By Net Sales10,000
To Purchases6,400By Closing Stock600
To Direct Expenses300  
To Gross Profit2,500  
 10,600 10,600

PROFIT AND LOSS ACCOUNT OF A COMPANY LTD.

                                                          for the period ending December 31

ExpensesRs.IncomeRs

To Operating Expenses 

a)Administrative Expenses

b)Selling and Distribution Expenses 

1,600

300

By Gross Profit2,500
To Financial Expenses100  
To Net Profit500  
 2,500  

Solution:

Operating Ratio = (Cost of goods sold and other operating expenses / Net Sales) × 100

Cost of Goods Sold:                                                                                                   Rs,

Opening Stock                                                                                                        1,400                    

Purchases                                                                                                                6,400

Direct Expenses                                                                                                        300

                                                                                                                                 8,100 

Less Closing Stock                                                                                                      600

Cost of Goods Sold                                                                                                  7,500

Operating Expenses:                                                                                                   Rs.

    a) Administrative Expenses                                                                                    1,600

    b) Selling and Distribution Expenses                                                                       300

    c) Financial Expenses                                                                                                100

Operating Expenses                                                                                                      2,000

Operating Ratio = (7,500 + 2.000 / 10,000) × 100 = 95%

Problem 5: From the following Balance Sheet and additional information, you are required to calculate:

(i) Return on Total Resources

(ii) Return on Capital Employed

(iii) Return on Shareholders’ Fund

                                                                                                      Balance Sheet as of 31st Dec.

 Rs. Rs.
Share Capital (Rs. 10)8,00,000Fixed Assets10,00,000
Reserves2,00,000Current Assets3,60,000
8% Debentures2,00,000  
Creditors1,60,000  
 13,60,000 13,60,000

The net operating profit before tax is Rs. 2,80,000. Assume tax rate at 50% Dividend declared amounts to Rs.1,20,000

Solution:

I) Return on Total Resources = (Profit after Tax / Total Assets) × 100

                                              = (Rs. 1,40,000 / Rs. 13.60.000) × 100 = 10.29%

ii) Return on Capital Employed = (Profit before Tax & Interest / Capital Employed) × 100

                                                  = (Rs. 2,96,000 / Rs.12,00,000) × 100 = 24.7%

iii) Return on Shareholder’s Fund = Profit after Tax / Shareholders Fund 

                                                     = (Rs.1,40,000 / Rs.10,00,000) × 100 = 14%

Problem 6: The following Trading and Profit and Loss Account of Fantasy Ltd. for the year 31‐3‐2000 is given below:

ParticularRs.ParticularRs.
To Opening Stock76,250By Sales5,00,000
Purchases3,15,250Closing Stock98,500
Carriages and Freight2,000  
Wages5,000  
Gross Profit b/d2,00,000  
 5,98,500 5,98,500
To Administration Expenses By Gross Profit b/d2,00,000
Selling and Dist. expenses1,01,000Non-operating incomes 
Non operating expenses12,000Interest on securities1,500
Financial Expenses7,000Dividend on Shares3,750
Net Profit c/d84,000Profit on sale of shares750
 2,06,000 2,06,000

Calculate:

1. Gross Profit Ratio        2. Expenses Ratio     3. Operating Ratio

4. Net Profit Ratio           5. Operating (Net) Profit Ratio   6. Stock Turnover Ratio. 

Solution:

1) Gross Profit Margin = (Gross profit / Sales) × 100

                                    = (2,00,000 / 5,00,000) × 100

                                    = 40%

2) Expenses Ratio = (Op.Expenses / Net Sales) × 100

                             = (1,13,000 / 5,00,000) × 100

                             = 22.60%

3) Operating Ratio = (Cost of goods sold + Op. Expenses / Net Sales) × 100

                               = (3,00,000 + 1,13,000 / 5,00,000) × 100

                                = 82.60%

Cost of Goods sold = Op. stock + purchases + carriage and Freight + wages – Closing Stock

                               = 76250 + 315250 + 2000 + 5000 ‐ 98500

                               =  Rs.3,00,000  

4) Net Profit Ratio = (Net Profit / Net Sales) × 100

                              = (84,000 / 5,00,000) × 100

                              = 16.8%

5) Operating Profit Ratio = (Op. Profit / Net Sales) × 100

Operating Profit = Sales – (Op. Exp. + Admin Exp.)

                                         = (87,000 / 5,00,000) × 100

                                          = 17.40%

6) Stock Turnover Ratio = Cost of goods sold  / Avg. Stock

                                      = 3,00,000 / 87,375

                                       = 3.43 times


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