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Management Accounting




                    Notes          To understand the methodology of expressing the ratios, various expressions of ratios are
                                   highlighted in the Figure 4.1.




                                      Notes  Purposes of the Ratio Analysis:

                                     1.   To study the short-term solvency of the firm — liquidity of the fi rm
                                     2.   To study the long-term solvency of the firm — leverage position of the fi rm




                                     3.   To interpret the profitability of the firm — Profit earning capacity of the fi rm
                                     4.   To identify the operating efficiency of the firm — turnover of the ratios


                                   4.2 Classification of Ratios

                                   The accounting ratios are classified into various categories, viz.:

                                   1.   On the basis of fi nancial statements
                                   2.   On the basis of functions

                                   4.2.1 On the basis of Financial Statements

                                   1.   Income Statement Ratios: These ratios are computed from the statements of Trading, Profi t
                                       & Loss account of the enterprise. Some of the major ratios are as following GP ratio, NP
                                       ratio, Expenses Ratio and so on.
                                   2.   Balance Sheet or Positional Statement Ratios: These types of ratios are calculated from the
                                       balance sheet of the enterprise which normally reveals the financial status of the position

                                       i.e. short-term, long-term fi nancial position, share of the owners on the total assets of the
                                       enterprise and so on.
                                   3.   Inter Statement or Composite Mixture of Ratios: Theses ratios are calculated by extracting
                                       the accounting information from the both financial statements, in order to identify stock

                                       turnover ratio, debtor turnover ratio, return on capital employed and so on.

                                   4.2.2 On the basis of Functions

                                   1.   On the basis of solvency position of the fi rms: Short-term and long-term solvency position
                                       of the fi rms.



                                   2.   On the basis of profitability of the fi rms: The profitability of the firms are studied on the
                                       basis of the total capital employed, total asset employed and so on.
                                   3.   On the basis of effectiveness of the fi rms: The effectiveness is studied through the turnover
                                       ratios — Stock turnover ratio, Debtor turnover ratio and so on.
                                   4.   Capital structure ratios: The capital structure position are analysed through leverage
                                       ratios as well as coverage ratios.














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