Financial Accounting

Financial Ratio Analysis

1. Liquidity Ratio: Liquidity Ratios are meant for testing short-term financial positions of a business. These are designed to test the ability of the business to meet its shorter term obligation promptly.

1. Current Ratio

Current Ratio= Current Assets/ Current Liabilities

The ratio is used to assess the short term liquidity. 2:1 is regarded as a satisfactory level.
The company’s maximum current ratio was in 2012 i.e 1.458 since then it has been declining and currently it is 1.06. As such company does not have sufficient funds to pay its liabilities on time and meet other day to day expenses.

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1. Quick ratio

Quick Ratio= Quick Assets/Current Liabilities

Quick Assets are Current Assets that are Cash or will be converted into Cash Quickly. A quick ratio of 1:1 is considered to be satisfactory. Here this company is not able to meet its current liabilities with its quick assets. None of the years indicate satisfactory quick ratio, it was maximum in 2012 i.e 0.83

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Thus from the Liquidity Ratio analysis we can infer that liquidity position of the company is not satisfactory.

1. Leverage Ratio or Solvency Ratio

These are meant for testing long term financial soundness of any firm. Primarily these establish and study relationship between owned funds and loaned funds.

1. Debt- Equity Ratio

This ratio reflects the relative contribution of creditors and owners of the firm in its financing. Always a low ratio is better.

Throughout the years the company had history of keeping very low debt. It was maximum in 2011 i.e 0.23. As such the shareholders of the firm would gain in two ways: (1) with a limited creditor stake, they would be able to retain the control of the firm and (2) the returns to them would be magnified.

Debt-Equity Ratio= Total Debt/ Networth

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1. Interest Coverage Ratio

= EBIT/ Interest Expense

It shows whether a firm pays the interest on its loans in a timely fashion. A higher no. is desired.

Here since the company has very low debt, this ratio is very high which indicates that the company is very much capable in efficiently paying its loan interests.

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1. Efficiency/ Activity/ Turnover Ratios

These ratios helps to evaluate the efficiency with which the firm manages and utilizes it Resources. They indicate the speed with which the assets are being converted or turned over into sales.

1. Inventory Turnover Ratio
   = Cost of Goods Sold/Inventory

It indicates the velocity with which the stock of finished goods is sold i.e. replaced        . It shows how many times a firms inventory is sold and replaced over a period. Generally a larger No. is desirable.
In 2015 the company achieved one of its maximum Inventory Turnover Ratio i.e. 6.1.

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1. Inventory Conversion Period or Days in Inventory
   = Days In Year/Inventory Turnover Ratio
   Indicates on average how long inventory sits on a firms shelves
   For the company it was highest in 2011 i.e 82 days since then it has been decreasing and currently it is approximately 60 days.
   

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1. Debtor or Receivables Turnover Ratio

= Annual Net Credit Sales/ Accounts Receivables

Indicates how efficient the firm is in credit collection. A large number is desirable.
From the profit and loss account statement it is clear that sales are increasing every year, even debtors are also increasing so there is not much fluctuation in debtors’ turnover ratio.


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1. Days Receivables
   = Days In Year/Account Receivables Turnover
   Indicates the number of days on average customers are taking to pay on their Accounts.
   In 2014, debtors collection period was highest i.e. 24 days, which is not good for the company.
   
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1. Creditors/ Accounts Payables Turnover Ratio
   = Annual Net Credit Purchases/Accounts Receivables
   Indicates the speed with which the payments are made to the Trade Creditors. A small number is more desired.
   From the graph it is clear that over the years both sales and creditors increased the same proportion.
   
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1. Days Payables
   = Days In Year/Account Receivables Turnover
   Indicates the number of days on average the firm is taking to pay its Account Payables.
   On an average the Days Payables for the company has been remained pretty high. In 2015 it was 100 Days.
   
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1. Cash Conversion Cycle ( Net Operating Cycle)

= Day’s Inventory + Day’s Receivables – Day’s Payables
Operating cycle is the number of days a firm takes in realizing its inventories in Cash. Operating Cycle is a measure of the operating efficiency and Working Capital Management of a Firm. A short operating cycle is good as it tells that company’s cash is tied up for a shorter period.
Apart from 2011 in which the creditors payment was minimum, in all the other years  the company’s CCC is negative which shows the company is very efficiently managing it’s working capital by extending the repayment of debt as long as possible and on the other hand collecting the receivables as early as possible.

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1. Profitability Ratios

Efficiency in Business is measured by profitability. These ratios tell us whether the firm earns substantially more than it pays for the use of Borrowed Funds. These ratios are expressed in percentage.

1. Gross Profit Margin
   = (Gross Profit/ Net Sales) X 100

The gross profit margin is used to analyze how efficiently a firm is using its Raw materials, labor and manufacturing related fixed assets to generate Profits. A higher profit margin is a favorable profit indicator.

From the graph the GP declined by 3% from 2011-2012 because of increase in current liabilities however since 2012 it has been steadily increasing and between the year 2012- 2015 there was an increase of approximately 2%.