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ACCOUNTING FOR

MANAGERS MODULE 2

By: Abhishek Jain

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Financial Analysis - Objectives

Identify the Strengths and Weaknesses of the Firm

Establish Relationship between Various Components

Decision Making

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Financial Analysis - Types

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Financial Analysis - Procedure

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Comparative Statement

Comparative Balance Sheet

Comparative Income Statement

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Ratio Analysis

What is a Ratio?

What is Analysis?

Modes in which ratios can be presented: Percentage

Proportion

Rate or Times

Nature of Ratio Analysis

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Interpretation of Ratios

Single Absolute Ratios

Group Ratios

Historical Comparison Projected Ratios

Inter Firm Comparison

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Liquidity Ratios

Current Ratio

Formula: CA/CL

Acid Test/Quick/Liquid Ratio

Formula: Quick Assets/CL

Quick Assets = CA (Prepaid Exp. + Inventory)

Absolute Liquid Ratio

Formula: Absolute Liquid Assets/CL

Absolute Liquid Assets = Cash in Hand/Bank +

Marketable Securities

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Efficiency Ratios

Inventory/Stock Turnover Ratio

Formula: COGS/Average Inventory at Cost

Average Inventory = (Opening Stock + Closing

Stock)/2

If COGS data is not available Net Sales can be used

Inventory Conversion Period

Formula: Days in a year/Inventory Turnover Ratio

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Efficiency Ratios

Debtors/Receivables Turnover Ratio

Formula: Net Credit Annual Sales/Average Debtors

Average Debtors = (Opening Debtors + Closing

Debtors)/2 Debtors = Sundry Debtors + Bills Receivables +

Accounts Receivables

Average Collection Period

Formula: No. of Working Days/Debtors Turnover Ratio

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Efficiency Ratios

Creditors/Payables Turnover Ratio

Formula: Net Credit Annual Purchases/AverageCreditors

Average Creditors = (Opening Creditors + ClosingCreditors)/2

Creditors = Sundry Creditors + Bills Payables +Accounts Payables

Average Payment Period Formula: No. of Working Days/Creditors Turnover Ratio

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Efficiency Ratios

Working Capital Turnover Ratio

Formula: Cost of Sales/Average Net Working Capital

Average Net Working Capital = (Opening NWC +

Closing NWC)/2

Net Working Capital (NWC) = Current Assets Current

Liabilities

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Leverage/Capital Structure Ratios

Repayment of Principal

Payment of Interest Due

Debt-Equity Ratio: Approach 1: Formula:

Long-Term Debt/Shareholders Equity

Approach 2: Formula:

Total Debt/Shareholders Equity

Preference Share Capital Debt OR Shareholders

Equity

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Leverage/Capital Structure Ratios

Debt to Total Capital Ratio

Approach 1: Formula:

Long-Term Debt/Permanent Capital

Current Liabilities are not included in Permanent Capital

Approach 2: Formula:

Total Debt/Total Assets

Total Debts = Long-Term Debt + Current Liabilities

Total Assets = Permanent Capital + Current Liabilities

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Leverage/Capital Structure Ratios

Proprietary Ratio

Formula: Proprietors Fund/Total Assets

Also Known as Capital Gearing Ratio

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Coverage Ratios

Computed from information available in P&L

Account.

Interest Coverage Ratio

Formula: EBIT/Interest

Dividend Coverage Ratio

Formula: EAT/Preference Dividend

Debt Service Coverage Ratio Formula: (EAT + Interest + Depreciation + Other Non

Cash Expenses)/Instalment

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Profitability Ratios Related to Sales

Measures Profitability of a Firm

Interested Parties (Major):

Management

Investors/Shareholders

Creditors

Owners

Types: Profit Margin Ratios

Expenses Ratios

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Profitability Ratios Related to Sales

Gross Profit Margin

Formula: (Gross Profit/Net Sales) X 100

Operating Profit Margin

Formula: EBIT/Net Sales

Pre-tax Profit Margin

Formula: EBT/Net Sales

Net Profit Margin Formula: EAT/Net Sales

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Profitability Ratios Related to Sales

Expenses Ratios

COGS Ratio

Formula: (COGS/Net Sales) X 100

Operating Expenses Ratio

Formula: (Operating Expenses/Net Sales) X 100

Operating Expenses = Administrative Expenses + Selling

Expenses

Operating Ratio Formula: (COGS + Operating Expenses/Net Sales) X 100

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Profitability Ratios Related to

Investment

Return on Investment (ROI)

Return on Shareholders Equity (ROE)

Return on Capital Employed (ROCE)

Return on Assets (ROA)

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Profitability Ratios Related to

Investment

Dividend Per Share (DPS)

Formula: Dividend Paid to Ordinary Shareholders/No.

of Ordinary Shares Outstanding

Dividend Pay-out Ratio

Formula: (Total dividend given to equity

shareholders/Total net profit belonging to equity

shareholders) X 100

Formula 2: (DPS/EPS) X 100

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Profitability Ratios Related to

Investment

Earnings Yield

Formula: (EPS/Market Value per Share) X 100

Dividend Yield

Formula: (DPS/Market Value per Share) X 100

Price Earnings Ratio:

Formula: Market Price per Share/EPS

Book Value Per Share: Formula: Net Worth/No. of Equity Shares Outstanding

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Profitability Ratios Related to

Investment

Price to Book Value Ratio

Formula: MPS/BPS

Return on Assets (ROA)

(Net Profit After Tax/Average Total Assets) X 100

Average Tangible Assets and Average Fixed Assets can also

be used as a variant

Return on Capital Employed (ROCE)

Formula: EBIT/Average Capital Emloyed

Capital Employed = Long term Liablilities + Owners Capital

OR Net Working Capital + Net Fixed Assets

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Assets/Investment Turnover Ratios

Total Assets Turnover

Formula: COGS or Sales/Average Total Assets

Fixed Assets Turnover

Formula: COGS or Sales/Average Fixed Assets Capital Turnover

Formula: COGS or Sales/Average Capital Employed

Current Assets Turnover

Formula: COGS or Sales/Average Current Assets Working Capital Turnover

Formula: COGS or Sales/Net Working Capital