Financial Analysis: Use And Importance Of Ratio Analysis In Business

CHAPTER 3

3.1 Theoretical background of the study

Use and significance of ratio analysis:-

The ratio analysis is one of the most powerful tools of the financial analysis. this is used to a device to analyze and interpret the financial health of enterprise. Ratio analysis is stands for the process of determining and presenting the relationship of items and groups of items in the financial statements. It is an important tool of the financial analysis. It is the way of by which financial stability and of the concern can be judged. These ratios have wide applications and are of immense use today.

The main following are the points of importance of ratio analysis:

a) Managerial uses of ratio analysis:-

 Helps in decision making:-

 Helps in

Price level changes concern ratios

The comparability of ratios suffer, if the prices of the commodities in two different years are not the same. Change in price effect the cost of production, sale and also the value of assets.

5. ignore qualitative factors

Ratio analysis is the quantitative capacity of the performance of the business. It shoes that ratio is only a one sided approach to measure the competence of the business.

6. Personal bias

Ratios be only means of financial analysis and an end in itself. The ratio has to be interpret and different people may understand the same ratio in different ways.

7. Window dressing

Financial statements can easily be window dressed to present a better picture of its financial and profitability position to outsiders. therefore, one has to be very careful in making a decision from ratios calculated from such financial statements

3.3 Classification of ratios:

Several ratios, calculated from the accounting data can be grouped into various classes according to financial activity or function to be evaluate. In view of the condition of the various users of ratios, ratios are classified into following four important categories

• Liquidity

Total Assets Turnover:

This ratio shows the firm’s ability in generating sales from all financial resources committed to total assets.

Sales Total Assets Turnover = Total assets

Total Assets (TA) include net fixed Assets (NFA) and current assets (CA) (TA=NFA+CA)

Current Assets Turnover A firm may also like to relate current assets (or net working gap) to sales. It may thus complete networking capital turnover by dividing sales by net working capital.

Sales Current assets turnover = Current assets

Fixed Assets