RATIO ANALYSIS: Ratio analysis is a technique of analyzing and interpreting the financial statements of the companies.

It is a process of establishing and interpreting various ratios for helping in making certain decisions. There are a number of ratios, which can be calculated from the information given in the financial statement of the company. a financial ratio is a relative magnitude of two selected numerical values taken from an enterprises financial statements. These ratios are used by the managers of the company, firms creditors, and sometimes even by the government. These ratios help in comparing the strengths and weakness of the company. ADVANTAGES OF RATIO ANALYSIS: Ratio analysis is a powerful tool of financial statement analysis. It is a device to help detect the weak points and problem areas of an enterprise. Some of the main advantages of using ratio analysis for analyzing the position, strength and weakness of the company are listed below: 1) Ratio is helpful in judging the financial performance of the enterprise over a period of time 2) It helps in measuring the efficiency of the enterprise and also facilitates inter firm comparison. 3) A study of the ratios and their relative trends helps the management in planning and forecasting decisions for the future. 4) Liquidity, solvency and profitability of the firm can be tested by using ratio analysis. 5) It helps in proper analysis of the financial statements by simplifying them and also helps in taking proper investment decisions. 6) Ration analysis gives an overall picture about the strengths and weakness of the firm as a whole. 7) Ratio analysis covers a wide area in which different sections of the finance of the firm can be properly analyzed.

LIMITATIONS OF RATIO ANALYSIS: Ratio analysis and its ratios should be used with proper care and caution and if not done properly they suffer from serious limitations and drawbacks. They have properly understood and taken into consideration before drawing out the conclusions. Some of the limitations are: 1) A single ratio cannot be used solely as an indicator of good or bad performance of the company and its management. 2) Ratios of any particular period of the lifetime of the company will not be of much help to the management. 3) Ratios will not be helpful if a person wants to know the entire and important information about the business operations just by relying on ratios. 4) Calculating too many ratios will actually increase the confusion and it will become difficult to draw precise and meaningful conclusions. 5) Ratios when calculated wrongly can lead to misleading conclusions. Also change in the accounting procedure will also affect ratios.

CLASSIFICATION OF RATIOS: Ratios are classified into different category according to the tests satisfied. Some of the main ratios used in calculating and analyzing the financial statements of Western India Plywoods are listed below. Among the whole set of ratios selected ratios were chosen to analyze the financial statements and give more precise conclusions and ultimately the right trends of the performance, liquidity as well solvency of the firm. Those ratios are listed below: 1) 2) 3) 4) LIQUIDITY RATIOS TURNOVER RATIOS SOLVENCY RATIOS PROFITABLITY RATIOS

The detailed list of the ratios coming under the above four headings are displayed in the chart of the rations.

CHART OF RATIOS USED FOR FINANCIAL STATEMENT ANALYSIS:

TYPES OF RATIOS LIQUIDITY TURNOVER SOLVENCY PROFITABLITY

1.

CURRENT RATIO QUICK RATIO

1.

INVENTORY TURNOVER FIXED ASSETS TURNOVER

1.

DEBTEQUITY PROPRIETA RY

1.

GROSS PROFIT NET PROFIT

2.

2.

2.

2.

3.

WORKING

3. 3. CAPITAL GEARING SOLVENCY 4.

CAPITAL TURNOVER

RETURN ON INVESTMEN T PRICE EARNINGS

4.

CREDITORS TURNOVER

4.

5.
5. DEBTORS TURNOVER AVERAGE COLLECTION PERIOD

INTREST COVERAGE

6.

7.

TOTAL ASSETS TURNOVER RATIO

CLASSIFICATION OF RATIOS: The above listed ratios are classified as follows:

1) LIQUIDITY RATIOS: The liquidity refers to the ability of the concern to meet its current obligations as and when they become due. These obligations are met out of current or floating assets. The current assets should be liquid or can be converted to liquid very easily. The following ratios are included in it. They are: 1. Current Ratio: Current ratio can be defined as the relationship between the current assets and current liabilities. It is calculated by dividing the total of current assets and current liabilities. The ideal ratio is 1:1.

CURRENT RATIO =

CURRENT

ASSETS

CURRENT LIABLITIES

2. Quick Ratio: Quick ratios may be defined as the relationship between quick assets and quick liabilities. Liquidity refers to the ability of a concern to meet the current obligations as and when they become due. It is calculated by dividing the quick assets by quick liabilities. The ideal ratio is 1:1.

QUICK RATIO =

QUICK QUICK

ASSETS LIABLITIES

2) TURNOVER RATIOS: Turnover ratios measure the efficiency or effectiveness with which the firm is able to manage its resources or available assets in the proper and useful way so that they are utilized at the maximum. They indicate the speed with which the assets are converted or turned over to sales. The ratios under this are: 1. Inventory or Stock Turnover Ratio: Every firm has to maintain a certain level of inventory of finished goods so as to meet the requirements of the business. The level should be optimum. It should neither go too high nor go too low. The ratio is calculated by dividing sales by average stock.

INVENTORY TURNOVER

______SALES____________ AVERGAGE INVENTORY

2. Fixed Assets Turnover Ratio: This ratio shows the relationship between the sales and fixed assets. It shows whether the fixed assets are fully utilized. This ratio shows the efficiency with which the firm is utilizing its fixed assets by generation of sales. This ratio is calculated by dividing sales by fixed assets.

FIXED ASSETS TURNOVER

______SALES______ FIXED ASSETS

3. Working Capital Turnover Ratio: Working capital of a concern is directly related to the sales. This ratio indicates the velocity with which utilization of net working capital takes place. This ratio is calculated by dividing net sales by net working capital.

WORKING CAPITAL TURNOVER

= ____NET__

SALES____

NET WORKING CAPITAL

4. Creditors Turnover Ratio: Creditors turnover ratio indicates the velocity with which the creditors are turned over in relation to purchase. It implies the credit period enjoyed by the firm in paying creditors. It is calculated by dividing net purchase by creditors including bills payable.

CREDITORS TURNOVER RATIO = NET CREDIT PURCHASE__ NET CREDITORS

5. Debtors Turnover Ratio: Debtors turnover ratio indicates the velocity of the debt collection of the firm. This ratio measures as to how fast the debts can be collected. It can be calculated as:

DEBTORS TURNOVER RATIO =

NET CREDIT SALES NET DEBTORS

__

6. Average collection period: The average collection period represents the average number of days for which a firm has to wait before its receivables are converted into cash. This ratio is calculated as dividing the number of days with the debtors turnover ratio.

AVERAGE COLLECTION PERIOD = ____NO OF DAYS

____

DEBTORS TURNOVER RATIO

7. Total assets turnover ratio: It shows the relationship between the net sales and the total assets of the firm. It can be calculated by dividing net sales by total assets of the firm.

TOTAL ASSETS TURNOVER RATIO = ____NET SALES

TOTAL ASSETS

____

3) SOLVENCY RATIO: The term solvency refers to the ability of the concern to meet its long term obligations. The long- term debts of a firm includes the debenture holders, financial institutions that provide long term and medium term loan to the firm, other creditors selling goods on credit. This ratio indicates the firms ability to pay or meet the fixed interest and cost and repayment schedules associated with its long term borrowings. The main ratio included in this are: 1. Debt-Equity Ratio: Debt-Equity Ratio is also known as External-Internal Equity Ratio. It is calculated to measure the relative claims of outsiders and the owners against the firms assets. This ratio indicates the relationship between the outsiders funds and share holders fund. It is calculated by dividing outsiders fund by share holders fund.

DEBT-EQUITY RATIO

____OUTSIDERS FUND

____

SHARE HOLDERS FUND

2. Proprietary Ratio: Proprietary ratio is also known as Equity Ratio. It is a variant to the debtequity ratio. This ratio establishes the relationship between share holders

fund and total asset. It is important ratio for determining the long- term solvency of the firm. This ratio indicates the proportion of total assets financed by shareholders. It can be calculated as:

PROPRIETORY RATIO

SHARE HOLDERS FUND___

TOTAL ASSETS

3. Capital Gearing Ratio: The Capital Gearing Ratio is used to describe the relationship between the fixed income bearing securities fund and the equity share holders fund. It is calculated as:

CAPITAL GEARING RATIO

= FIXED INCOME BEARING FUND

EQUITY SHARE HOLDERS FUND

4. Solvency ratio: Solvency ratio is used to test the solvency of the firm. This ratio indicates the relationship between the total liabilities to outsiders to the total assets of the firm. It is related to proprietary ratio. It is calculated as:

SOLVENCY RATIO

OUTSIDERS LIABLITY ____ TOTAL ASSETS

5. Interest Coverage Ratio: Interest Coverage Ratio is also known as Debt Service Ratio. This ratio is mainly for testing the capacity of the firm to service its debts. It shows the

relationship between the earnings before interest and tax and interest charges on loans that are fixed and other loans taken by the company. It can be calculated as:

INTEREST COVERAGE RATIO

EBIT ____ INTEREST CHARGES

4) PROFITABILITY RATIOS: The main purpose of calculating profitability ratio is to measure the profitability of the firm. Profit is the main reason why business operates. Good profits enable the business to expand and grow over time. Profits are one of the most important elements for the survival of the business. Profitability ratios measure the overall efficiency of the business. These ratios are calculated either in relation to sales or relation to investments. The various ratios included in this are: 1. Gross Profit Ratio: Gross Profit Ratio measures the relationship of gross profit and its relationship with the net sales. This ratio indicates the average spread between the cost of goods sold and sales revenue.

GROSS PROFIT

GROSS PROFIT NET SALES

X 100

2. Net Profit Ratio: Net Profit Ratio establishes the relationship between net profit after tax and sales. It indicates the efficiency of the management of inventory, manufacturing, selling, administration and other activities of the firm. This

ratio measures the overall firms profitability to turn each rupee sales inventory into net profit.

NET PROFT

NET PROFIT NET SALES

X 100

3. Return On Investment Ratio: Return On Investment Ratio shows the relationship between the net profits earned by the firm and the share holders fund of the firm.

RETURN ON INVESTMENT = _____NET PROFIT SHARE HOLDERS FUND

X 100

4. Price Earnings Ratio: Price Earnings Ratio is the ratio between the earnings per share and market price per equity share of the company. This ratio is mainly calculated to make an estimate of appreciation in the value of a share of a company. It is widely used by the investors to make decision on buying or not buying the shares of the company.

PRICE EARNINGS RATIO =

EARNINGS PER SHARE

MARKET PRICE OF EQUITY SHARES

X 100