Ratio Analysis Finance Slides of business course
- 1. Ratio Analysis Name of Student: XXXXXXXX Student ID: XXXXXXXXXXXX Batch xxxxxxxxx Course: Financial Theory & Practice (MBA-035) Department of Business Administration XXXXXXXXXXXXXXXXXXXXXXXXXXXX
- 2. Contents Of This Presentation 1. Introduction to Ratio Analysis 2. Importance of Ratio Analysis 3. Types of Ratio Analysis 4. Liquidity Ratio Analysis 5. Activity Ratio Analysis 6. Profitability Ratio Analysis 7. Key Learnings and Insights
- 3. 01 Ratio Analysis Ratio analysis involves calculating and interpreting financial ratios to evaluate and monitor a firm's performance. Source Data: ➔ Income Statement ➔ Balance Sheet Purpose: ➔ Helps understand financial health ➔ Provides relative measures, not absolute numbers
- 4. Why It Matters? Ratio analysis is valuable for: ➔ Shareholders – Assess risk and return, which impact stock price ➔ Creditors – Check liquidity and ability to repay debt ➔ Management – Monitor performance, guide strategic decisions Ratios offer relative values, making them more insightful than raw numbers. 02 Importance of Ratio Analysis
- 5. 1. Cross-Sectional Analysis ➔ Compares a firm’s ratios with other firms at the same point in time ➔ Common benchmarks: ● Key competitors ● Industry averages ➔ Helps assess how a firm stands in its industry ➔ Example tool: Benchmarking 03 Types of Ratio Analysis 2. Time-Series Analysis ➔ Compares a firm's ratios across multiple time periods ➔ Tracks trends and patterns ➔ Reveals improvements or potential issue There are two main types of comparisons. Continued…
- 6. Best Practice: Use both Cross-Sectional and Time-Series Analysis together. Example: If a company’s collection period is worsening over time and is also worse than industry average serious concern → Financial ratios can be divided for convenience into five basic categories: liquidity, activity, debt, profitability, and market ratios. Liquidity, activity, and debt ratios primarily measure risk. Profitability ratios measure return. Market ratios capture both risk and return. CATEGORIES OF FINANCIAL RATIOS
- 7. Definition: Liquidity ratios measure a firm's ability to meet its short-term obligations as they come due. High liquidity is good, but excess idle assets lower returns. Firms must balance liquidity and profitability. 04 Liquidity Ratio Analysis 2. Quick Ratio (Acid-Test Ratio): Excludes inventory to give a more stringent view of liquidity. Quick Ratio (Acid-Test Ratio) = (Current Assets – Inventory) / Current Liabilities 1. Current Ratio: Indicates how well a firm can pay off short-term debt using its current assets. Current Ratio = Current Assets / Current Liabilities A company needs enough liquidity to stay operational — but too much liquidity might mean it's not using its cash efficiently.
- 8. 1. Inventory Turnover = Cost of Goods Sold / Inventory Shows how often inventory is sold and replaced. 2. Average Collection Period = Accounts Receivable / (Annual Sales / 365) Shows how long it takes to collect payments from customers. 3. Average Payment Period = Accounts Payable / (Annual Purchases / 365) Shows how long the company takes to pay its suppliers. 4. Total Asset Turnover = Sales / Total Assets Measures how efficiently total assets generate revenue. 05 Activity Ratio Analysis Activity ratios measure how efficiently a company uses its assets. These ratios help identify inefficiencies in operations.
- 9. ●Gross Profit Margin = (Sales - Cost of Goods Sold) / Sales ➔Shows how much profit is left after covering the cost of goods. ●Operating Profit Margin = Operating Profit / Sales ➔Measures core operating profitability. ●Net Profit Margin = Net Income / Sales ➔Reflects the overall profitability after all expenses. 06 Profitability Ratio Analysis Profitability ratios measure how well a company generates profit. ●Return on Assets (ROA) = Net Income / Total Assets ➔Shows how efficiently the company uses its assets. ●Return on Equity (ROE) = Net Income / Common Equity ➔Measures the return to shareholders. ●Earnings Per Share (EPS) = Net Income / Number of Shares Outstanding ➔Shows the amount of profit earned per share. These ratios are critical indicators of financial success.
- 10. Activity Ratios measure operational efficiency. Liquidity Ratios Show short-term financial health. A Complete Analysis ties everything together to show the full financial condition. Profitability Ratios reveal how well the company earns profit. Summary Calculating ratios is just the beginning — interpreting them in the right context is what makes them useful.
- 11. 1. Summarizing All Ratios ➔This means reviewing liquidity, activity, profitability, debt, and market ratios together to understand the firm’s full performance. 2. DuPont System ➔This breaks down Return on Equity (ROE) into three components: ROE = Net Profit Margin × Total Asset Turnover × Equity Multiplier 07 A Complete Ratio Analysis This shows whether performance comes from higher margins, better efficiency, or more leverage. There are two ways to get a complete financial picture:
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