**Investment Ratio Analysis & Example**

This is used by shareholders or investors to calculate the return on their investments, and to make good decisions about which shares to buy...

**List of Investment Ratios and Formulas:**

1. Dividend cover = Profit after tax / dividends

2. Dividend yield = ( Dividend per share/ Market price per share ) * 100 %

3. Earnings per share (EPS) = Profit available to equity shareholders / Number ofequity shares

4. Price earnings ratio (P/E) = Market price per share / Earnings per share

5. Price to sales ratio = Market price per share / Sales per share

6. Price earnings growth (PEG) ratio = Price per earnings / Annual EPS growth

7. Price to book value (PBV) = Market price per share / Balance sheet price per share

8. Payout Ratio = Dividend per share / EPS

**Examples:**

1) Camry Ltd made a net profit of $80,000 that is available to ordinaryshareholders, and the dividend declared is $20,000, then:

Dividend cover = 80,000 / 20,000 = 4 times

2) An investor bought a share at $6.00 and he received a dividend of $0.30 on it, then:

Dividend yield = (0.30 / 6.00) * 100 % = 5 %

3) Company ABC has an annual earning of $140,000 dollars. Total dividends of $70,000 are to be paid out, and the company has 350,000 outstanding shares.

**Solution:**

Earnings per share (EPS) = $140,000 / 350,000 = $0.40

Dividend per share = 70,000 / 350,000 = $0.20

The dividend payout ratio = 0.20 / 0.40 = 50%

4) Sports Ltd has ordinary share capital of 200,000 shares at $1 each. It made a net profit of $400,000 that is available to the ordinary shareholders. The market price of a share is $6.00.

Then:

EPS = $400,000 / 200,000 = $2 per share

P/E ratio = $6 / $2 = 3

**Financial Leverage Ratio Analysis**

This is used to assess the financial position of a company in terms of its financial stability. It gives an indication of the firm's ability in repaying its long-term debts...

Definition: Financial Leverage Ratio (also called long-term solvency ratio) is used to measure the firm's ability to repay its long-term debts. It gives an indication of the long-term solvency of the firm.

**List of Financial Leverage Ratios and Formulas:**

1) Debt to Equity = Total Debt / Total Equity

2) Total Debts to Assets = Total Liabilities / Total Assets

3) Interest Coverage Ratio = Earnings Before Interest and Taxes / Interest Charges

4) Debt service coverage ratio = Net Operating Income / Total Debt Service

5) Capitalization Ratio = Long-term Debt / (Long-term debt + Shareholder equity)

Learn how to calculate financial leverage ratio with the following examples:

**Example 1:**

CK Ltd has total liabilities of $700,000 and total stockholders' equity of $380,000, then the debt/capital ratio is: 700,000 / (700,000 + 380,000) = 700,000 / 1,080,000 = 0.6481 = 64.81%

**Example 2:**

Saint Ltd. is looking at an investment property with a net operating income of $87,000 and an annual debt service of $58,000. The debt service coverage ratio for this property = 87,000 / 58,000 = 1.5

**Example 3:**

Jimmy plc has total sales revenue of $99,000 for the year. It has cost sales $9,000 and operating expenses of $5,000. The company's interest expense for the year is $25,000.

Then,

Earnings Before Interest and Taxes = Sales – Cost of sales – Operating expenses

EBIT = $99,000 - $9,000 - $5,000

EBIT = $85,000

Interest Coverage Ratio = $85,000/$25,000 = 3.4 times

**Example 4:**

Peters Ltd has the following information:

Creditors $2,000

Loan $38,000

Buildings $60,500

Debtors $7,000

Bank $5,000

Stocks $4,500

Then, the Total Liabilities = 2,000 + 38,000 = $40,000

Total Assets = 60,500 + 7,000 + 5,000 + 4,500 = $77,000

Total Debts to Assets = 40,000 / 77,000 = 0.519

**Profitability Ratio Analysis & Example**

This is used to assess the profitability of a business in relation to its past performance, or in relation to other companies in the same industry...

**List of Profitability Ratios and Formulas:**

1. Gross Profit ratio = (Gross profit / Net sales) * 100 %

2. Net Profit ratio = (Net profit / Net sales) * 100 %

3. Operating profit margin = Operating income / Net sales

4. Return on Capital Employed = (Profit before interest / Capital employed) * 100 %

5. Return on Equity (ROE) = Net income / Average shareholders equity

6. Return on Assets (ROA) = Net income / Total assets

7. Cash flow return on investment (CFROI) = Cash flow / Market recapitalisation

8. Risk adjusted return on capital (RAROC) = Expected return / Economic capital

9. Return on net assets = Net income / Net assets

**Example:**

Calculate the profitability ratios, given the following figures:

Stock at the start of the year: $10,000

Stock at the end of the year: $6,000

Sales: $18,000

Sales returns: $3,000

Purchases: $2,000

Overhead expenses: $3,000

Capital at start of year: $17,000

Capital at end of year: $15,000

**Solution:**

Net sales = $18,000 - $3,000 = $15,000

Cost of sales = Stock at start + purchases - Stock at end = 10,000 + 2,000 - 6,000 = $6,000

Gross profit = Net sales - Cost of sales = $15,000 - $6,000 = $11,000

Gross profit ratio = (11,000 / 15,000 ) * 100% = 73.33 %

Net profit = Gross profit - overhead expenses = 11,000 - 3,000 = $8,000

Net profit ratio = (8,000 / 15,000 ) * 100% = 53.33 %

Average capital employed = 1/2 (Capital at start + Capital at end) = 1/2 (17,000+15,000) = $16,000

ROCE = (8,000 / 16,000) * 100% = 50%

**Efficiency Ratio Analysis & Example**

This is used to analyze how efficiently the firm uses and controls its assets and liabilities internally...

Definition: Efficiency Ratios (also known as Activity ratios) are used to measure the effectiveness of the firm's use of resources.

**List of Efficiency Ratios and Formula:**

1. Average Collection Period = (Average Trade Debtors / Credit Sales) * No. of Days

2. Average Payment Period = (Average Trade Creditors / Credit Purchases) * No. of Days

3. Inventory Turnover Ratio = Cost of goods sold / Average inventory held

4. Debtors Turnover Ratio = Net Credit Sales / Average Trade Debtors

5. Total Assets Turnover = Net Sales / Total Assets

6. Degree of Operating Leverage = % change in EBIT / % change in Sales

7. Creditors Turnover Ratio = Net Credit Purchases / Average Payable

8. Days Sales Outstanding Ratio = Accounts Receivable / Average sales per day

9. Working capital turnover Ratio = Cost of sales / Average net working capital

10. Current Asset Turnover Ratio = Cost of goods sold / Current assets

11. Stock Turnover Period = (Average stock / Cost of goods sold) * No. of Days

12. Cash Cycle = Stock Turnover Period + Average Collection Period - AveragePayment Period

**Example:**

Emily Ltd has the following information:

Trade debtors $100,000

Trade creditors $80,000

Credit sales $300,000

Credit purchases $120,00

Cost of sales $70,000

Opening stock $60,000

Closing stock $20,000

Bank $66,000

Calculate the relevant Efficiency Ratios.

**Solution:**

Average Collection Period = (100,000 / 300,000) * 365 = 121.7 days

Average Payment Period = (80,000 / 120,000) * 365 = 243.3 days

Current Asset Turnover = 70,000 / (100,000 + 20,000 + 66,000) = 0.38

Average stock = (60,000 + 20,000) / 2 = $40,000

Stock Turnover Period = (40,000 / 70,000) * 365 = 208.6 days

Cash Cycle = 208.6 + 121.7 - 243.3 = 87 days

**Liquidity Ratio Analysis & Example**

This is used to measure the ability of the firm in meeting its short-term liabilities...

Definition: Liquidity ratios provide a general estimate of solvency of a company.

**List of Common Liquidity ratios and Formulas:**

1) Current ratio (also known as working capital ratio)

= Current Assets / Current Liabilities

2) Quick ratio, in times (also known as acid test ratio or quick assets ratio)

= (Current Assets - Stock) / Current Liabilities

3) Interest Coverage = Profit Before Tax / Interest Charge

4) Gearing ratio = Long Term Liabilities / Equity Shareholders' Funds

5) Cash Ratio = Cash / Current Liabilities

6) Operating Cash Flow Ratio = Operating Cash Flow / Current Liabilities

**Example:**

Calculate the working capital, acid test and gearing ratios, given the following figures:

Debtors: $2,000

Creditors: $5,000

Bank: $11,000

Cash: $1,000

Closing stock: $6,000

Opening stock: $7,000

Total Capital and Reserves: $25,000

Long term loan: $15,000

**Solution:**

Current assets = debtors + bank + cash + closing stock = 2000 + 11000 + 1000 + 6000 = $20,000

Working capital ratio = 20,000 / 5,000 = 4 (This means that current assets are 4 times current liabilities)

Acid test ratio = (20,000 - 6,000) / 5,000 = 2.8 (This means that current assets in liquid form are 2.8 times current liabilities)

Equity Shareholders' Funds = Total Capital and Reserves + Long term Liabilities = 25000 + 15000 = $40,000

Gearing ratio = 15,000 / 40,000 = 0.375

http://forum.srilankaequity.com/t14598-financial-ratio-analysis-part-1#94176

Source:financelearners