Activity analysis
- 1. FINANCIAL STATEMENT AND ANALYSIS Prepare by: Arpita Mehta Guided by : Hardik Baxi Submitted to: Department of Business Administration Bhavnagar
- 3. Literature review John Myer, a renowned authority on Financial Statements Analysis, has referred that in the initial years of 20th century, the bankers and securities exchange authorities were extensively relying on the financial statements of the companies for analysis, monitoring and control of the activities and performance of businesses. The history, principles and financial statement analysis has been referred by another authority also: Kennedy and McMullen. Literature on Economics also has a reference to accounting and financial management. The aim of financial management has been linked with (1) the field of basic economics, and especially micro economics (use of scarce resource). (2) by examining the many and diverse activities and decisions which occupy financial managers.
- 4. Introduction • The activity analysis is sometimes called the management efficiency analysis or economic activity analysis. It includes the assessment of the productivity (turnover) of assets and capital used by the company. Productivity analysis is based on the ratios relating the achieved results on sales (or costs of obtaining them) to the levels of assets and capital used in the company. The group of these ratios allows assessing the efficiency of assets management, which affects both the financial liquidity and long-term profitability.
- 5. Meaning of Activity Analysis • Activity ratios are financial analysis tools used to gauge the ability of a business to convert various asset, liability and capital accounts into cash or sales. The faster a business is able to convert its assets into cash or sales, the more efficient it runs. Activity ratios become more meaningful when compared to industry-average activity ratios. Different industries have different industry-average activity ratios and pitting your ratios against those of peer businesses allows you to know if your ratios are better or worse.
- 6. Concept of activity Analysis • The approach to the activity analysis is done as follows: • 1. The growth of activity and its measurement In terms of investment. • 2. Activity in relations to total resources • 3. Component of cost
- 7. • The growth of activity and its measurement In terms of investment The growth in the firm has been measured in terms of the growth of average year’s sales over the period of study. • Activity in relations to total resources Activity ratios are concerned with how efficiency the assets of the firm are managed or utilized. These ratios indicate the rate at which different assets are turned over in the process of doing business. The greater rate of turnover or conversion, the more efficient the utilization or management, other things being equal, resulting in higher profitability. Sometimes these ratios are called efficiency ratios, or investment turnover ratios. Thus, Turnover ratios reflect the relationship between the level of the sales and the various assets and a proper balance between assets and sales shows better management of assets. Different activity ratios have been computed for judging the effectiveness of assets utilization.
- 8. Component of Cost • Prime Cost Prime costs are the components that are direct in nature. Conversion costs are the components to change raw materials to finished goods. Prime Costs = Direct Labor + Direct Material Conversion Costs = Direct Labor + Manufacturing Overhead • Works Cost It comprises of prime cost and factory overheads, (cost of indirect material, indirect labor and indirect expenses related to factory works). This cost is also known as factory cost, production or manufacturing cost.
- 9. Component of Cost • Cost of Production (Office Cost) It is the sum total of works cost and office and administrative overheads <Cost of indirect material, indirect labor and indirect expenses related to office works). This cost is known as office cost. Cost of production refers to the total sum of money needed for the production of a particular quantity of output. • Total Cost It comprises of cost of production and selling and distribution overheads (Cost of indirect material, indirect labor and indirect expenses for selling and distribution activities). Total Cost = Cost of Production + Selling and Distribution Overheads
- 10. Activity ratio • Total Asset Turnover Ratio • Fixed Asset Turnover Ratio • Current Assets turnover Ratio • Debtors turnover Ratio • Average Collection period • Inventory Turnover Ratio
- 11. Total Asset turnover • Asset turnover measures how efficiently a company uses its total assets to generate revenues. • Formula
- 12. Total Asset turnover 0.8 0.85 0.9 0.95 1 1.05 2017 2016 2015 Total assets turnover ratio year Total assets turnover ratio 2017 0.89 2016 0.95 2015 1.03
- 13. Fixed assets turnover ratio It measures the company capability to generate sales from its fixed assets investments. Formula Fixed assets turnover ratio = Net sales /Total Fixed assets
- 14. Fixed Asset Turnover Ratio 4.35 4.4 4.45 4.5 4.55 4.6 2017 2016 2015 fixed assets turnover ratio year Fixed assets turnover ratio 2017 4.44 2016 4.54 2015 4.59
- 15. Current assets turnover • it signifies the total sales done by the company with an investment in the current asset. A higher ratio implies that company has been successful in utilizing the current assets. Formula : • Current Assets turnover Ratio= Net sales / Total current liabilities
- 16. Current Assets turnover Ratio 0 0.5 1 1.5 2 2.5 3 3.5 4 2017 2016 2015 Current Assets turnover ratio year Current assets turnover ratio 2017 3.84 2016 2.10 2015 1.69
- 17. Inventory turnover • The high inventory turnover rate can be a sign that a company’s inventory is too lean, and the firm may be unable to keep up with any increased demand. Further more, inventory turnover is very industry-specific. Formula :
- 18. Inventory Turnover Ratio 0 20 40 60 80 100 120 140 2017 2016 2015 Inventory tunover ratio year Inventory turnover ratio 2017 129.38 2016 84.92 2015 85.96
- 19. Debtor’s turnover ratio: • Debtor turnover ratio are also known as receivable turnover ratio. The accounts receivable turnover ratio measures how many times a business can collect its average accounts receivable during the year. Formula : • Debtor turnover ratio= Annual net credit sales / Average Account receivable
- 20. Debtor turnover ratio • Debtor turnover ratio= Annual net credit sales /Average Account receivable year Debtor turnover ratio 2017 5.47 2016 5.30 2015 4.94 4.6 4.7 4.8 4.9 5 5.1 5.2 5.3 5.4 5.5 2017 2016 2015 debtor turnover ratio
- 21. Average collection period • The average collection period indicates the average number of days elapsed between a credit sale and the date the company receives the payment from the credit sale. Formula: Average collection period= Account receivable / Sales *360
- 22. Average collection period Year Account receivable / sales *360 Average collection period 2017 8129.90/45639.6 0*360 64 2016 8704.80/44680.8 0*360 70 2015 8144.20/41209.8 0*360 71 60 62 64 66 68 70 72 2017 2016 2015 Average collection period
- 23. Conclusion • The activity ratio analysis is being applied for the measurement of the company’s working capital usage efficiency. Activity ratios indicate if a firm manages its inventories, cash, receivables and payables and other assets well. • Activity ratios measure company sales per another asset account the most common asset accounts used are accounts receivable, inventory, and total assets. Activity ratios measure the efficiency of the company in using its resources. Since most companies invest heavily in accounts receivable or inventory, these accounts are used in the denominator of the most popular activity ratios. • The efficiency is measured in terms of generation of revenue by the respective assets. • Total assets turnover shows is how efficiently a company can use its assets to generate sales.
- 24. • Fixed assets turnover is declining ratio may indicate that the business is over-invested in plant, equipment, or other fixed assets, and also current assets turnover is managed and uses its assets to produce products and sales. • Inventory turnover ratios are company does not spend by storing non-salable inventory. • Debtor’s turnover ratios an accounting measure used to measure how effective a company is in extending credit as well as collecting debts. • Last the average collection period ratio is Monitoring the average collection period is important for a company's cash flow and its ability to meet its obligations when they come due.