Using a Large Number of Ratios to Perform a Complete Ratio Analysis of Essay

Using a Large Number of Ratios to Perform a Complete Ratio Analysis of a Firm - Essay Example It is of great significance that the ratios must be benchmarked against a standard in order for them to possess a meaning. Keeping that into account, the comparison is usually conducted between companies portraying same business and financial risks, between industries and between different time periods of the same company. Profitability Ratios Gross profit margin is an analyzing tool which assists in identifying how effectively and efficiently the company is utilizing its raw materials [1], variable cost related to labor and fixed costs such as rent and depreciation of property plant and equipment. The ratio is calculated by dividing the sales revenue by the gross profit. Net profit margin, on the other hand analyzes the profitability of the company before deducting the taxation and finance charges from the earnings. The ratio is calculated by dividing the profit before interest and tax with the sales revenue of the current financial period. The ratio highlights how well the company is managing its selling and administrative expenses it also highlights the other income generated by the company during the course of its operations. Return on capital employed (ROCE) is, according to the analyst, is considered to be the most significant ratio. in order to evaluate a company’s performance from an investor’s point of view. ROCE measures a company’s ability to earn a return on all of the capital that is being employed by the company [3]. The ratio is calculated as net income upon total capital employed, which is the sum of debt and equity financings. Earnings per share (EPS) are considered one of the most important financial ratios from the investor’s point of view. The ratio highlights the average earnings from the shares transacted and is calculated by dividing the profit attributable to the common share holders and multiplying them with the weighted average number of shares outstanding during the period. The liquidity ratio measures the company’s ability to pay its short term liabilities. The ratio illustrates that how quickly a company can convert its assets into cash and cash equivalent in order to pay off its short term liabilities [3]. The most commonly used liquidity ratio, the current ratio, which is calculated by comparing the current assets and current liabilities. The strengthened the current ratio the more ability the company has to pay its debts and short term obligations over the next 12 months. An overall analysis of the ratio would portray that in all the years the company had enough assets to pay off its obligations and debts. The acid test, which is also regarded as the quick ratio, is calculated by subtracting the inventory balance from the total current assert balance. . Out of the current assets mentioned, inventories are regarded as the one which takes comparatively more time to be converted into cash or cash equivalent. Receivable turnover represents how quickly the cash is received from the debtors. The ratio is calculated by dividing the revenue generated from the sales by the receivable balance as mentioned in the balance sheet of t he company. The formula calculates the number of times the debtors are turned over during a year. The higher the value the more efficient the management is or it could also mean that the debts are more liquid. Inventory turnover represents how quickly a company’s inventory is sold, which can be calculated by div