Financial analysis involves establishing relationships between items in a company's balance sheet, profit and loss statement, and cash flow statement to analyze the company's financial strengths and weaknesses. This is used by various stakeholders like creditors, lenders, investors, and management. Key techniques include horizontal analysis, trend analysis, vertical analysis, and ratio analysis which compares accounting numbers through ratios. Common ratios analyzed include liquidity, solvency, turnover, profitability, and leverage ratios.

1. Financial Analysis
• Process of identifying
y g
• Financial strengths and weaknesses
• By establishing relationships
• Between the items of
• B/S, P/L and CFS
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2. Users of Financial Analysis
• Trade creditors
• Lenders
• Investors
I t
• Management
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3. Techniques of Financial
Statement A l i
St t t Analysis
1. Horizontal Analysis
y
2. Trend Analysis
3.
3 Vertical Analysis
4. Ratio Analysis
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4. Nature of Ratio Analysis
• A financial ratio is a relationship between
p
two accounting numbers.
• Ratios help to make a qualitative judgement
about the firm’s financial performance.
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5. Standard of Comparison
• Time series analysis
• Inter-firm analysis
• Industry analysis
y y
• Proforma financial statement analysis
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6. Types of Financial Ratios
• Liquidity ratios
• Solvency ratios
• Turnover ratios
• Profitability ratios
• Leverage ratios
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7. Liquidity Ratios
• Liquidity ratios measure a firm’s ability to
firm s
meet its current obligations.
Current assets
Current ratio =
C t ti
Current liabilities
Current assets – Inventories
Quick ratio =
Current liabilities
C t li biliti
Cash + Marketable securities
Cash ratio =
Current liabilities
C u rr e n t a s s e t s - I n v e n t o r y
I n t e r v al M e a s u r e 
A v e r a g e d a ily o p e r a ti n g e x p e n s e s
N e t w o r ki n g c a p it a l
N e t W o r ki n g C a p it a l R a ti o 
narain@fms.edu N e t a s s e ts

8. Solvency Ratios
• Solvency ratios measure the dependence of
a firm on borrowed funds.
Debt
Debt-equity ratio 
Equity (Net Worth)
Debt Debt
Debt ratio  
Debt  Equity Capital employed
Earnings before interest and tax
Interest coverage 
Interest
I t t
• Treatment of –
• Preference Shares
• Leases narain@fms.edu

9. Turnover Ratios
• Turnover or Activity Ratios measure the
firm’s efficiency in utilising its assets.
Cost of goods sold or net sales
Inventory Turnover 
Average (or closing) inventory
Number of days in the year (say, 360)
f inventory h ldi 
Days of i holding
Inventory turnover
Credit sales or net sales
Debtors Turnover 
Average (or closing) debtors
Number of days in the year (say, 360)
Collection period 
Debtors turnover
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10. Turnover Ratios
Net sales
Current assets turnover 
Cu e t
Current assets
Net sales
Net current assets turnover 
Net current assets
Net sales
Fixed assets turnover 
Net fixed assets
Net sales
Net assets turnover 
Net
N t assets or capital employed
t it l l d
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11. Profitability Ratios
• Profitability Ratios measure a firm’s overall
firm s
efficiency and effectiveness in generating
profit.
profit
Profit before interest and tax (PBIT)
Margin 
Net sales
Profit after tax (PAT)
Net margin 
Net sales
PBIT
Before tax return on investment 
Net assets
Profit after tax
Return on equity 
Equity (net worth)
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12. Equity-related Ratios
• Equity-related Ratios measure the
shareholders’ return and value.
Profit ft t
P fit after tax
EPS 
Number of ordinary shares
Dividends
DPS 
Number of ordinary shares
DPS Dividends
Payout ratio  
EPS Pr ofit after tax
DPS
Dividend yield 
Market value per share
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13. Equity-related Ratios
EPS
Earnings yield 
M arket value per share
M arket value per share
P / E ratio =
EPS
Net
N t worth
th
Book value per share 
Number of ordinary shares
M arket value per share
M B value 
Book value per share
M ar ket value of assets
T bi ' s q 
Tobin
Economic value of assets
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14. DuPont Analysis
DuPont Analysis
integrates the important ratios to analyse a firm's profitability.
PBIT Sales PBIT
RONA=  
Net Assets Net Assets Sales
PAT Sales PBIT  PAT Net Assets 
ROE     
Net Worth Net Assets Sales  PBIT Net Worth  
ROE  Assets turnover × Margin × Leverage
g g
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15. ISPAT INDUSTRIES LIMITED
RATIO ANALYSIS
Liquidity ratios
Current ratio 1.47 1.24
Quick ratio 0.05 0.06
Activity ratios
Sales/TA 0.30
0 30 0.22
0 22
Sales/FA 0.81 1.25
Sales/Debtors 5.75 5.69
Sales/Inventory 8.70 5.49
Leverage ratios
L i
Debt/Equity 2.85 2.50
Debt/TA 0.74 0.71
PBIT/Interest 1.90 1.04
Profitability ratios
PBIT/Sales 29.41% 7.30%
Net profit/Sales 13.96% 0.26%
PBIT/TA 8.68%
8 68% 1.59%
1 59%
Net profit/NW 15.87%
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0.21%

16. INFOSYS
Balance Sheeet as at March 31
in Rs.
2,001 2,000
SOURCES OF FUNDS
SHAREHOLDERS FUNDS
Share capital 330,792,085 330,755,000
Reserves and surplus 13,565,599,903 8,002,273,248
Capital Employed 13,896,391,988 8,333,028,248
APPLICATION OF FUNDS
FIXED ASSETS
Original cost 6,311,444,025 2,840,305,143
Less: Depreciation 2,441,315,982 1,336,520,594
Net book value 3,870,128,043 1,503,784,549
Add: Capital work-in-progress 1,706,504,250 569,603,505
5,576,632,293 2,073,388,054
INVESTMENTS 341,154,821 138,348,469
CURRENT ASSETS, LOANS AND ADVANCES
Sundry debtors 3,023,702,417 1,361,781,253
Cash
C h and b k b l
d bank balances 3,850,610,285
3 850 610 285 4,317,935,730
4 317 935 730
Loans and advances 4,302,793,623 2,101,277,161
11,177,106,325 7,780,994,144
Less: Current liabilities 1,349,181,176 671,506,459
Provisions 1,849,320,275
1 849 320 275 988,195,960
988 195 960
NET CURRENT ASSETS 7,978,604,874 6,121,291,725
Net Assets narain@fms.edu 13,896,391,988 8,333,028,248

17. INFOSYS
Profit and Loss Account for the year ended March 31
in Rs.
2001 2000
INCOME
Software development services and products
Overseas 18,740,266,421.00 8,696,980,931.00
Domestic 265,392,386.00 126,256,042.00
Other income 593,714,915.00 391,411,095.00
19,599,373,722.00 9,214,648,068.00
EXPENDITURE
Software development expenses 9,581,766,650.00 4,662,684,578.00
Administrative and other expenses 1,775,470,971.00 694,850,282.00
Provision for investments 152,898,608.00
Provision for contingencies 33,300,000.00
Provision for e-inventing the company 35,000,000.00
11,510,136,229.00
11 510 136 229 00 5,425,834,860.00
5 425 834 860 00
Operating profit (PBIDT) 8,089,237,493.00 3,788,813,208.00
Interest
Depreciation 1,128,945,152.00 532,327,389.00
Profit before tax and extraordinary item 6,960,292,341.00
6 960 292 341 00 3,256,485,819.00
3 256 485 819 00
Provision for tax
earlier years 14,000,000.00 2,400,000.00
current year 713,100,000.00 394,600,000.00
Profit after tax before extraordinary item
y 6,233,192,341.00
, , , 2,859,485,819.00
, , ,
Extraordinary item -- transfer of intellectual property right (net of tax) 54,944,000.00
-- provision no longer required narain@fms.edu 75,670,846.00
Net profit after tax and extraordinary item 6,288,136,341.00 2,935,156,665.00
AMOUNT AVAILABLE FOR APPROPRIATION 6,288,136,341.00 2,935,156,665.00

18. INFOSYS
Financial Ratios
2001 2000
Activity Ratios
Income/Assets
I /A t 1.41
1 41 1.11
1 11
Income/Debtors 6.48 6.77
Current Ratios
CA/CL 3.49 4.69
CA/Assets 0.80 0.93
NCA/Assets 0.57 0.73
Profitability Ratios
Margin
PBDIT/Income 41.27% 41.12%
PBIT/Income 35.51% 35.34%
PAT/Income 31.80% 31.03%
Return on Investment
PBDIT/Assets 58.21% 45.47%
58 21% 45 47%
PBIT/Assets 50.09% 39.08%
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PAT/NW 44.85% 34.32%

19. SBU PROFIT & LOSS ACCOUNT, YTD 2002
ACCOUNT
USD in '000
% of
YTD Re v.
Tota l Re ve nue 14850 100.0%
Onsite re ve nue 12600 84.8%
Offshore re ve nue 2250 15.2%
Se rvice Cre dit
- Onsite Re ve nue % 85%
CONTROLLABLE COSTS
CGS A
Sa la rie s & Re la te d Costs:
Onsite Sa la rie s
O it S l i 6375 42.9%
42 9%
Offshore Sa la rie s
GRP Alloca te d 0 0.0%
Offshore Sa la rie s 840 5.7%
Othe r Sa la ry Ove rhe a ds 34 0.2%
Subcontra ctor Costs
Sa la rie s-Onsite
s Onsite 0 0.0%
Sa la rie s-Offshore 0 0.0%
Fore ign Tra ve l 250 1.7%
Ince ntive s
Proje ct Ince ntive s 0 0.0%
SBU Spe cia l Ince ntive s 0 0.0%
Da ta Communica tion Cha rge s 0 0.0%
Le ga l Immigra tion Fe e s 333 2.2%
Othe r Profe ssiona l Fe e s 0 0.0%
Tota l CGS A Cost 7832 52.7%
CGS B
Da ta Communica tion Cha rge s 90 0.6%
Me dica l Insura nce 300 2.0%
De pre cia tion: CGS 223 1.5%
1 5%
Othe rs CGS 0 0.0%
Tota l CGS B Cost 613 4.1%
TOTAL CGS A + CGS B Costs narain@fms.edu 8445 56.9%
Gross Ma rgin 6405 43.1%

20. Utility of Ratio Analysis
• Assessment of the firm’s financial
firm s
conditions and capabilities.
• Diagnosis of the firm’s problems
firm s problems,
weaknesses and strengths.
• Credit analysis
• Security analysis
• C
Comparative analysis
ti l i
• Time series analysis
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21. Cautions in Using Ratio Analysis
• Standards of comparisons
• Company differences
• Price level
• Different definition
• Changing situations
• Past data
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