LITERATURE REVIEW Ratio analysis is a widely used tool of finance analysis.

The term ratio refers to the relationship expressed in mathematical terms between individual figures of group of figures connects with each other in some logical manner and are selected from financial statement of the concern. The ratio analysis is based on the fact that a single accounting figure by itself may not communicate any meaningful information but when expressed as a relative to some other figure, it may definitely provide some significant information. The relation between two or more accounting figures/groups is called a FINANCIAL RATIO. A financial ratio helps to express there relationship between two accounting figures in such a way that users can draw conclusion about the performance, strengths and weakness of a firm. STANDARDS OF COMPARISON: The ratio analysis comparison for a useful interpretation of the financial statement. A single ratio in itself does not indicate favorable or unfavorable conditions. It should be compared with some standards. Standards of comparison may consist of: Past ratios, i.e. ratios calculated from the financial statement of the sane firm. Competitors ratio i.e. ratios of some selected firms, especially the most progressive and successful competitor, at the same time. Industry ratio i.e. ratios of the industry to which the firm belongs.

NATURE OF RATIO ANALYSIS: Ratio analysis is a technique of analysis and interpretation of financial statements. It is the process of establishing and interpreting various ratios for helping in making certain decisions. It is only a means of understanding of financial strengths and weaknesses of a firm. There are a no. of ratios which can be calculated from the information given in financial statement, but the analysis has to select the appropriate data and calculate only a few appropriate ratios. The following are the four steps involved in the ratio analysis. Selection of relevant data from the financial statement depending upon the objective of the analysis. Calculating of appropriate ratio from the above data. Comparison of the calculated ratio with the ratios of the same firm in the past, or the ratios developed from projected financial statements are the ratios of some other firms or the comparison with rations of the industry to which the firm belongs.

IMPORTANCE OF RATIO ANALYSIS: Aid to measure general efficiency Aid to measure financial solvency Aid in forecasting and planning Facilitate decision making Aid in corrective action Aid in intra firm comparision Act as a good communication Evaluation of efficiency Effective tool

ADVANTAGE OF RATIOS: Useful for evaluating performance in terms of profitability and financial stability Useful for intra and inter from comparison Useful for forecasting and budgeting. It is just tabular form over a period of years indicates the trend of business. Simple it understands rather than the reading but the figures of financial statements. Key tool in the hands of modern financial management. Enables outside parties to asset strengths and weakness of the firm. Ratio analysis is very useful for ranking management decisions and also highlights the performance in the areas of profitability, financial stability and operational efficiency.

LIMITATIONS OF FINANCIAL RATIOS: The ratio analysis is a widely used of technique to evaluate the financial position and performance of business. But there are certain problem using ratios the analyst should aware these problems.

The following are some of limitations: It is difficult to decide on the proper basis of comparison. The comparison is render difficult because of differences on situations of two companies or of one company over years. The price level changes make the interpretation of ratio. The differences in the definitions of different of items in the balance sheet and profit and loss account statement make the interpretation of ratios difficult.

The ratios calculated at a point of time are less informative and defective as they suffer from short term changes. The ratios are generally calculated from past financial statement and, thus there are no indicators of future. Differences in accounting policies and accounting period make the accounting data of two firms non comparable as also the accounting ratios.

Management should be particularly interested in know the financial strengths of the firm to make their best use and to able to spot out the financial weakness of the firm to the suitable corrective actions, the future plans of the firm should be laid down in view of the firms financial strengths and weakness. Thus, financial analysis is the starting point for making plans, before using and sophisticated forecasting and planning the future. The financial analysis shows how financial data can be used to analyze a firms past performance and assets its present financial strengths. A ratio is simple arithmetic expression of the relationship of one number to another. Accounting which ratios are relationship expressed in mathematical forms between figures which have connected with each other in some manner, obviously no purpose will be served by comparison the two sets of figures are also unfit for a comparison, and ratio analysis shows the relationship between the different items in the data. For example, on a day, a firm is having 10 lakh of current assets and 5 lakh of current liabilities; the ratio of the current assets to the current liabilities is 10/5-2:1. As the current assets are double the amount of current liabilities the firm could able to discharge all current liabilities without any a difficulties. So the ratio can be expressed in the form of a simple ratio or as a percentage. In the above illustration he relationship is expressed by simple ratio, this simple ratio can be converted into a percentage. Instead of saying that, the current assets are double the amount of current liabilities.

SIGNIFICANCEOF RATIO ANALYSIS: An absolute figure does not convey anything unless it is related with the other relevant figure. Magnitude of current liabilities of a company does not reveal anything about solvency position of the company. It is only when it is related with current assets figures of the same company an idea about the solvency position of the company can be had ratio make a humble attempt in this direction.

Ratios are significant both in vertical and horizontal analysis. The vertical ratio analysis, ratio helps the analyst to far a judgment whether, performance of the corporation at appoint of time is good questionable or financial condition of the corporation is improving or deteriorating and whether the cost, profitability or efficiency is showing an upward or downward trends.

Financial ratios become meaningful to judge financial condition and profitability performance of ratios involves two types of comparison, firstly, a comparison of present ratio with the past and expected future ratios for the same company when financial ratios for several proceeding years are computed the analyst can be determine the composition of changes and determine whether there has been an improvement or deterioration in the financial position of the company with those similar types of company or with industry averages at the same point of time such as comparison would considerable in sight into the relative financial conditional and performance of the company.

Objectives of the ratio analysis: Ratio provides to the financial position of the concern. The major objective of ratio analysis is to know the financial strength, position, soundness or weakness of the enterprise. One can draw conclusion about the exact financial positions of the concern with help of ratios analysis . RATIO: A ratio is an arithmetical expression of the relationship of ne number in terms of another. Accounting ratios present interrelationship among various accounting data, Ratios can be expressed as integers or percentages.

PROFITABILITY RATIOS: These ratios are calculated to learn about the end results of business activities. With the help of these ratios the overall efficiency of a business concern can be assessed. The following are the important profitability ratios:

(a) Gross profit ratios: This ratio tells us the gross margin on trading and is calculated as under

Gross profit Gross profit ratio = ---------------------------------------- 100 Net sales

Net sales- cost goods sold = ----------------------------------------------- 100 Net sales Gross profit ratio indicates the efficiency with which a firm producers its products. A low gross profit indicates high cost of goods sold due to unfavorable purchasing policies, investment in plant and machinery of operating profit for the payment of dividends and certain of ratios.

(b) Operating ratio: This ratio establishes the relationship between costs of goods sold another operating expense on one hand and sales on other hand. Thus it measures the cost of the following formula: Operating cost Operating ratio=--------------------------------------100 Net sales Cost of goods sold + operating expenses =--------------------------------------------------------------------100 Net sales Operating cost can be found by adding operating expenses to cost of goods sold. Operating expenses include administrative and selling expenses like rent, salaries, insurance, directors fee and selling and distribution expenses like advertisement, salaries of salesman etc., Higher the operation ratio the less it is as it would have a small margin to cover interest, income tax, dividend and reserves. However, it should be used cautiously as it may be affected by a number of uncontrollable factors.

(c) Operating profit ratio: This ratio establishes the relationship between profit and sales. It is calculated as follows: Operating profit Operating profit ratio=-----------------------------------------------100 Net sales

(d) Expenses Ratio: Expenses ratio indicates the relationship of various expenses to net sales. These ratios are calculated by dividing each item of expenses or group of expenses with the net sales. The lower the ratio, the greater is profitability and vice versa.

Particular expense Particular expense ratio=----------------------------------------- 100 Net sales

(e) Net profit ratio: Net profit ratio indicates the relationship between of the management in manufacturing, selling, administrative and other activities of the firm can be assessed. This ratio is the overall measures of firms profitability. It is calculated as follows: Net profit(after tax) Net profit ratio=-------------------------------------------100 Net sales

(f) Return on capital employed ratio: This ratio is an indicator of the earning capacity of capital employed in the business. By capital employed, we mean not only the equity share capital, but also in additional to the various fixed liabilities representing borrowed amount as also capital reserves, revenue reserves, undistributed profits as reduced by the fictitious assets. This ratio is

calculated as follows:

Net Profit Return on capital employed ratio=----------------------------100 Capital employed

(g) Return on equity capital ratio: This ratio reveals that the relationship between profits of a company and equity capital. This is calculated as follows:

Net profit after tax-preference dividend Return on equity capital ratio=----------------------------------------------------------100 Paid up equity share capital

(h) Earnings per share: This ratio reveals a small variation of return on equity share capital. This is calculated as follows:

Net profit after tax-preference dividends Earnings per share=---------------------------------------------------------------100 Number of equity shares

LIQUIDITY RATIOS(OR) ANALYSIS OF SHORT TERM FINANCIAL POSITION RATIOS: Supplies of goods on credit and commercial banks providing short term loans are interested in learning about the companys ability to meet its current or short term obligations as when they become due. To meet these short term obligations the company should posses, sufficient liquid assets failing which, the company losses its credibility in the market. However, a high degree of liquidity is not good for because such a situation represents excessive funds of the firm being tied up in current assets. These ratios are calculated to judge short term financial position of a concern.

(a) Current ratio(working capital ratio): Though receivables are generally more liquid than inventories, there may be debts having doubt regarding their real stability in time. So, to get an idea about the absolute liquidity of a firm, both receivable and inventories are exculpated from current assets and only absolute liquid assets such as cash, bank and realizable securities are taken into consideration. It is calculated as follows: Cash+ bank+ short term marketable securities Absolute liquid ratio=-----------------------------------------------------------------Current liabilities

The desirable norm for this ratio is 1:2.

(b) Ratio of inventory to working capital:

This ratio establishes the relationship between inventory and working capital. With the help of this ratio it is possible to assess the extent of over stocking in the firm. It is calculated as: Inventory Ratio of inventory to working capital=-----------------------Working capital

Generally a ratio of 1:1 is desirable.