Market Test Ratios

Market Test Ratio are used for evaluating the share and stock which are traded in the market. The value of share in the stock exchange depends upon a number of factors like book value of share, future profitability of the company, return on equity share, earning per share, dividend policy, dividend per share etc. Important market test ratios include, Earning Per Share (EPS) Dividend Per Share Dividend Payout Ratio Price Earning Ratio

Earning Per Share(EPS)

This ratio indicates the profit available to equity share holder per share basis

EPS =

Net profit available to equity shareholders Number of equity shares

Significant of EPS
EPS measures the profitability of the company from the equity shareholders point of view. It help to determine the market price of the equity shares. If EPS is higher, market value of equity share will be higher in the stock exchange.

Dividend Per Share (DPS)

The net profits after tax and preference dividend belong to equity shareholders. However, a part of the net profit belonging to them is retained as reserve and only the balance is paid as dividend. Dividend paid to equity shareholders Number of equity shares

DPS =

Dividend Payout Ratio (D/P)

This ratio is measures the relationship between the dividend paid to equity shareholders and the earnings belongings to them.

D/P =

Dividend paid to equity shareholders Net profit belongings to equity share holders

(OR)

Dividend Payout Ratio =

Dividend per share Earning per share

Price Earning Ratio (P/E)

This ratio gives a fair idea about the potential market price of a share. This ratio is mainly used to value the companys performance as expected by equity shareholders Price earning ratio expresses the relationship between the market price of a share and the earnings per share.
Market price per share Price earning ratio = Earnings per share From EPS and PER, market price per share can be calculated. It is calculated as follows: Market price per share = PER * EPS

Profitability Ratios
It is the ultimate aim of every business. This is the measure of cost and control. The term profitability refers to the ability of a firm to earn maximum profit from the best utilization of resources. Profitability ratios measures the ability of the firm to earn an adequate return on sales, total asset and invested capital. There are two types of profitability ratios based on sale and another one is based on investment

Profitability Ratio based on Sales

Gross Profit Ratio Operating Ratio Operating Profit Ratio Expenses Ratio Net Profit Ratio

Profitability Ratio based on Investment

Return On Investment Return On Shareholders Fund Return On Equity Capital

Gross Profit Ratio

This is the gross profit of sale expressed as a percentage. It is also known as gross margin Gross Profit * 100 Net sales

Gross Profit Ratio =

Net Sales = Gross sales Sales Return Gross Profit = Net Sales Cost of goods sold Cost of goods sold = Opening stock + purchases + wages+ all other direct expenses closing stock

Operating Ratio
Operating ratio expresses the relationship between operating cost and sales
Operating Ratio = Cost of goods sold+ Operating expenses Net sales * 100

Operating Expenses includes, (a) Office and administrative exp, (b) Selling and Distribution Exp, (c) Financial Exp like interest on short term loans, bad debts, discount allowed etc . Here the long term loans and debentures and non operating expenses will not included in operating Exp.

Operating Profit Ratio

Operating profit ratio explain the relationship between operating profit and net sales
Operating Profit Ratio = Operating profit * 100 Net sales Operating profit = Net sales Cost of goods sold Operating expenses (or) Gross Profit Operating expenses Operating Profit is ascertained from net profit in following manner, Operating Profit = Net profit + Non operating expenses and interest on long term loans and Debentures Non operating income (dividend received, interest on deposit, sale of fixed asset etc)

Expenses Ratio
When the operating ratio is further analyzed, we shall get Expenses Ratios. Expense Ratios are break up of the operating ratio. Hence the sum total of all the expenses ratios would be equal to the operating ratio. The following are the formulas for computation of the expenses ratios:
Direct Material Cost Direct Material Cost Ratio = Net Sales Direct Labor Cost Direct Labor Cost Ratio = Net Sales Factory Expense Ratio = Factory Expenses Net Sales

*100 *100
* 100

2 3

Office and administrative expenses ratio = Office and administrative Exp.

Net sales

* 100

Selling and Distribution Expenses Ratio =

Selling and Distribution Exp. * 100 Net sales

Net Profit Ratio

Net profit ratio is the ratio of net profit earned by a business and its net sales. It measures the overall profitability.
Net Profit * 100 Net Sales Net profit can be calculated in two ways. One is profit before tax (PBT) and another one is profit after tax (PAT) PBT 1) * 100 Net Profit Ratio =

Net sales
PAT

2)

Net sales * 100

Profitability Ratios Based on Investment

These are the overall profitability ratios. These ratios are computed on the basis of investment in business. Important profitability ratios are Return On Investment, Return On Shareholders fund, Return on Equity Capital, Return On Total Asset etc. Profit before interest and tax
* 100 Capital Employed The overall profitability ratio {ROI} may be said to emerge from two other ratios : operating net profit ratio and capital turnover ratio. Sales Capital turnover ratio = Capital employed Operating Net Profit ratio = Return on investment =

Opening net profit Sales

The ROI can be derived as a product of capital turnover ratio and operating net profit ratio. Thus, Capital employed *

Seles

Operating N/P * 100 = ROI Sales

Capital employed (investment) may be Gross Capital employed or Net Capital employed Gross capital employed ( equal to total asset) is calculated as, Fixed assets + Current assets Net Capital Employed is calculated as follows, Fixed assets+ Current assets Current Liabilities (or) Share Capital + Reserves + Debentures + Other long term loans

Return on shareholders fund

This ratio indicates how effectively the shareholders funds have been utilized by the company. It is an index to know whether the owners are getting a satisfactory rate of return on their investment.
Return on shareholders fund =

Net profit after interest and tax * 100 Shareholders fund

Return on Equity Capital

The equity shareholders are the real owners of the company. They bear all risks and are entitled to the all profits remaining all the claims of outsiders and preference shareholders have been met in full.
Return on equity capital =

Net profit after tax and preference dividend * 100 Equity shareholders fund