Ratio Analysis: Use And Importance Of Ratio Analysis In Business
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 financial
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Price level changes affect ratios:-
The comparability of ratios suffers, 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. Ignoring qualitative factors:-
Ratio analysis is the quantitative measurement of the performance of the business. It shoes that ratio is only a one sided approach to measure the efficiency of the business.
6. Personal bias:-
Ratios are only means of financial analysis and an end in itself. The ratio has to be interpreted and different people may interpret 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. Hence, 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 evaluated. In view of the requirement of the various users of ratios, ratios are classified into following four important categories
• Liquidity
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(iii) Cash ratio and
(iv) Networking capital ratio.
Current Ratio: Current ratio is calculated by dividing current assets by current liabilities.
Current assets Current Ratio = Current Liabilities
The current ratio is a measure of firm’s short-term solvency. It indicates the availability of current assets in rupees for every one rupee of current liability. A ratio of greater than one means that the firm has more current assets than current claims against them Current liabilities.
Quick Ratio: Quick ratio also called Acid-test ratio, establishes a relationship between quick, or liquid, assets and current liabilities. An asset is a liquid if it can be converted into cash immediately or reasonably soon without a loss of value. The quick ratio is found out by dividing quick assets by current liabilities. (Quick Assets = Current Assets =
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