Ratio Analysis

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Ratio Analysis

  1. 1. Financial Ratio Analysis <ul><li>Interested parties </li></ul><ul><ul><li>Shareholders - to measure management’s performance </li></ul></ul><ul><ul><li>Investors - to make their investment decisions </li></ul></ul><ul><ul><li>Management - to plan and control operation </li></ul></ul>Ratio analysis is a quick and easy way of analyzing a firm’s financial statements.
  2. 2. Cautions For Ratio Analysis <ul><li>Ratio analysis cannot accurately pinpoint the problems of the firm. It is reasonable to expect that it points to a direction for a more detailed analysis. </li></ul><ul><li>Financial ratio itself is not meaningful without comparing it to a benchmark. Benchmarks can be a rival firm’s financial ratio or an industry average. </li></ul><ul><li>Sometimes a firm’s problems can be disguised as so-called “good ratios.” For example, a high inventory turnover can be an indicator of the firm’s dangerously low level of inventory. </li></ul>
  3. 3. Categories of Financial Ratios <ul><li>Liquidity Ratios </li></ul><ul><li>Efficiency Ratios </li></ul><ul><li>Leverage Ratios </li></ul><ul><li>Profitability Ratios </li></ul><ul><li>Liquidity and leverage ratios primarily measure risk; efficiency and profitability ratios measure performance and return. </li></ul>
  4. 4. Liquidity Ratios <ul><li>Net working capital </li></ul><ul><li>= Current assets - Current liability </li></ul><ul><li>Current ratio </li></ul><ul><li>Quick (acid-test) ratio </li></ul>
  5. 5. Efficiency Ratios <ul><li>Inventory turnover </li></ul><ul><li>Average collection period (Days sales outstanding) </li></ul><ul><li>Assets Turnover </li></ul><ul><li>Fixed assets turnover </li></ul>
  6. 6. Leverage Ratios <ul><li>Debt ratio </li></ul><ul><li>Debt-to-Equity ratio </li></ul><ul><li>Times interest earned ratio </li></ul>
  7. 7. Profitability Ratios <ul><li>Gross profit margin </li></ul><ul><li>Operating profit margin </li></ul><ul><li> </li></ul>
  8. 8. Profitability Ratios <ul><li>Net profit margin </li></ul><ul><li>Return on total assets (ROA) </li></ul><ul><li> </li></ul><ul><li>Return on equity (ROE) </li></ul>
  9. 9. Du Pont System of Analysis <ul><li>Used by financial managers as a structure to dissect the firm's financial statements and to assess its financial condition. </li></ul><ul><li>ROA = </li></ul><ul><li> </li></ul><ul><li>= (net profit margin) x (assets turnover) </li></ul><ul><li>ROE = </li></ul><ul><li>= (net profit margin) x (assets turnover) x (equity multiplier) </li></ul>
  10. 10. Ratios – example
  11. 11. Ratios – example continued <ul><li>Calculate the following ratios: </li></ul><ul><li>Current ratio </li></ul><ul><li>Days sales outstanding </li></ul><ul><li>Inventory turnover </li></ul>
  12. 12. Ratios – example continued <ul><li>Total assets turnover </li></ul><ul><li>Profit margin on sales </li></ul>
  13. 13. Ratios – example continued <ul><li>Return on Assets </li></ul>OR
  14. 14. Ratios – example continued <ul><li>Return on Equity </li></ul>OR
  15. 15. Ratios – example continued <ul><li>Debt ratio </li></ul>
  16. 16. Example - results

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