INTRODUCTION

The term ratio analysis refers to the analysis of the financial statements in conjunction
with the interpretations of financial results of a particular period of operations, derived
with the help of 'ratio'. Ratio analysis is used to determine the financial soundness of a
business concern.

MEANING OF RATIO ANALYSIS

Ratio analysis is a conceptual technique which dates back to the inception of accounting,
as a concept. Financial analysis as a scientific tool is used to carry out the calculations in
the area of accounting. In order to appraise the valid and existent worth of an enterprise,
financial tool comes handy, regularly. Besides, it also allows the firms to observe the
performance spanning across a long period of time along with the impediments and
shortcomings. Financial analysis is an essential mechanism for a clear interpretation of
financial statements. It aids the process of discovering, the existence of any cross-
sectional and time series linkages between various ratios.

DEFINITION
Ratio analysis is defined as. "The systematic use of ratio to interpret the financial
statement so that the strength and weakness of the firm as well as its historical
performance and current financial condition can be determined.

OBJECTIVES OF THE STUDY

To know the financial performance based on ratios.

To pinpoint the direction with which the organization is moving.
To know the financial position of the B.D.K. Process Control Private Ltd.
To know the liquidity position of the B.D.K. Process Control Private Ltd.
To assess the long-term viability of the firm.

1
 Research Methodology:
A) Primary Data

1) Annual reports.

2) Company Website.

B) Secondary data: Secondary data consists of readily available information in different

financial texts and company database. And also through annual reports of the company.

Analysis of Ratio
Analysis using ratios can be done in following ways.

Analysis of an individual (or) Single Ratio

Analysis of referring to a Group of Ratio

Analysis of ratios by Trend

Analysis by inter-firm comparison

Advantages Of Ratio Analysis:

Ratio analysis is widely used as a powerful tool of financial statement analysis. It
establishes the numerical or quantitative relationship between two figures of a financial
statement to ascertain strengths and weaknesses of a firm as well as its current financial
position and historical performance. It helps various interested parties to make an
evaluation of certain aspect of a firms performance.

2
1. Forecasting and Planning:
The trend in costs, sales, profits and other facts can be known by computing ratios of
relevant accounting figures of last few years. This trend analysis with the help of ratios
may be useful for forecasting and planning future business activities.

2. Budgeting:
Budget is an estimate of future activities on the basis of past experience. Accounting
ratios help to estimate budgeted figures. For example, sales budget may be prepared with
the help of analysis of past sales.

3. Measurement of Operating Efficiency:

Ratio analysis indicates the degree of efficiency in the management and utilisation of its
assets. Different activity ratios indicate the operational efficiency. In fact, solvency of a
firm depends upon the sales revenues generated by utilizing its assets.

4. Communication:
Ratios are effective means of communication and play a vital role in informing the
position of and progress made by the business concern to the owners or other parties.

5. Control of Performance and Cost:

Ratios may also be used for control of performances of the different divisions or
departments of an undertaking as well as control of costs.

6. Inter-firm Comparison:
Comparison of performance of two or more firms reveals efficient and inefficient firms,
thereby enabling the inefficient firms to adopt suitable measures for improving their
efficiency. The best way of inter-firm comparison is to compare the relevant ratios of the
organization with the average ratios of the industry.

7. Indication of Liquidity Position:

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Ratio analysis helps to assess the liquidity position i.e., short-term debt paying ability of a
firm. Liquidity ratios indicate the ability of the firm to pay and help in credit analysis by
banks, creditors and other suppliers of short-term loans.

8. Indication of Long-term Solvency Position:

Ratio analysis is also used to assess the long-term debt-paying capacity of a firm. Long-
term solvency position of a borrower is a prime concern to the long-term creditors,
security analysts and the present and potential owners of a business. It is measured by the
leverage/capital structure and profitability ratios which indicate the earning power and
operating efficiency. Ratio analysis shows the strength and weakness of a firm in this
respect.

9. Indication of Overall Profitability:

The management is always concerned with the overall profitability of the firm. They
want to know whether the firm has the ability to meet its short-term as well as long-term
obligations to its creditors, to ensure a reasonable return to its owners and secure
optimum utilization of the assets of the firm. This is possible if all the ratios are
considered together.

10. Signal of Corporate Sickness:

A company is sick when it fails to generate profit on a continuous basis and suffers a
severe liquidity crisis. Proper ratio analysis can give signal of corporate sickness in
advance so that timely measures can be taken to prevent the occurrence of such sickness.

11. Aid to Decision-making:

Ratio analysis helps to take decisions like whether to supply goods on credit to a firm,
whether bank loans will be made available etc.

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12. Simplification of Financial Statements:
Ratio analysis makes it easy to grasp the relationship between various items and helps in
understanding the financial statements.

LIMITATION OF RATIO ANALYSIS:-

Ratio analysis is a widely used tool of financial analysis. Though ratios are simple to
calculate and easy to understand, they suffer from some serious limitations:

1. Limited use of Single Ratio:-

A single ratio usually does not convey much of a sense. To make a better interpretation a
number of ratios have to be calculated which is likely to confuse the analyst than help
him in making any meaningful conclusion.

2. Lack of Adequate Standards:-

There are no well accepted standards or rules of thumb for all ratios which can be
accepted as norms. It renders interpretation of the ratio difficult.

3. Change of Accounting Procedure:-

Change in accounting procedure by a firm often makes ratio analysis misleading e.g. a
change in the valuation of methods of inventories, from FIFO to LIFO increases the cost
of sales and reduces considerably the value of closing stocks which makes stock turnover
ratio to be lucrative and an unfavorable gross profit ratio.

4. Window Dressing:-

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Financial statements easily can 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. But it may be
very difficult for an outsider to know about the window dressing made by a firm.

5. Personal Bias:-

Ratio is only means of financial analysis and not an end in itself. Ratios have to be
interpreted and different people may interpret the same ratio in different ways.

6. Incomparable:-

Not only industries differ in their nature but also the firms of the similar business widely
differ in their size and accounting procedure etc.. It makes comparison of ratios difficult
and misleading. Moreover, comparisons are made difficult due to differences in
definitions of various financial terms used in the ratio analysis.

7. Absolute Figures Distortive:-

Ratios devoid of absolute figures may prove distortive as ratio analysis is primarily a
quantitative analysis and not a qualitative analysis.

8. Price Level Changes:-

While making ratio analysis, no consideration is made to the changes in price levels and
this makes the interpretation of ratios invalid.

9. Ratios No Substitutes:-

Ratio analysis is merely a tool of financial statements. Hence, ratios become useless if
separated from the statements from which they are computed.

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CLASSIFICATION OF RATIOS:

1) BALANCE SHEET RATIO

Current Ratio
Liquid Ratio
Stock To Working Capital Ratio
Proprietary Ratio
Debt Equity Ratio
Capital Gearing Ratio

2) Revenue Statement Ratio

Gross Profit Ratio
Operatingratio.
Expenses Ratio
Operating Profit Ratio

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 Net Profit Ratio
Stock Turnover Ratio

3) Composite Ratio:
Return On Capital Employed
Return On Proprietors Funds
Return On Equity Capital
Dividend Payout Ratio
Debt Service Ratio
Debt Service Coverage Ratio
Debtors Turnover
Creditors Turnover

CURRENT RATIO :

The current ratio is the ratio of current assets to the current liabilities .It is calculated by
dividing current assets by current liabilities.

The current ratio of total current assets to total current liabilities.

Current Ratio = Current Assets

Current Liabilities

QUICK RATIO:

It is a measure of liquidity calculated dividing current assets minus inventory And

prepaid expenses by current liabilities

8
.Quick ratio = Quick assets

Quick liabilities

WORKING CAPITAL TURNOVER RATIO:

It represents the excess of current assets over current liabilities. It is a measure of liquidity
calculated by subtracting current liabilities from current assets.

Working Capital Turnover Ratio = Sales

Net Working Capital

PROPRIETORY RATIO:

It establishes relationship between the propitiator or shareholders funds & total tangible
assets. The ratio indicates properties stake in total assets. Higher the ratio lowers the risk
and lower the ratio higher the risk. Debt equity ratio & current ratio affects the
proprietary ratio.

Proprietary Ratio = Shareholders Funds

Total Assets

DEBT-EQUITY RATIO

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It measures the relation between debt and equity in the capital structure of the firm. In
other words, this ratio shows the relationship between the borrowed capital and owners
capital.

Debt-Equity Ratio = Total Debt

Net Worth

CAPITAL GEARING RATIO

REVENUE STATEMENT RATIOS

GROSS PROFIT RATIO

Gross profit ratiomeasures the relationship between gross profits & sales; it is usually

represented in percentage.

GROSS PROFIT RATIO = Gross Profit X 100

Sales

OPERATING RATIO

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 It is the relation between cost of goods sold & operating expenses on one hand & the
sales on the other hand. It measures the cost of operations per rupee of sales.

Operating Ratio = Operating Cost X 100

Sales

STOCK TURNOVER RATIO (ITR/STR).

It indicates the efficiency of firm in producing and selling its products. High Ratio is good from
the view point of liquidity and vice versa. A low ratio would signify that inventory does not sell
fast and stably in the warehouse for a longtime.

Cost of Goods Sold OR Sales a

Avg. Inventory Closing Stock

NET PROFIT RATIO:

This ratio is also known as net margin. This measures the relationship between net profit and
sales of a firm. Depending on the concept of net profit employed, it is calculated as follows

= Profit (loss) after tax X 100

Net Sales

This ratio indicates companys capacity to withstand adverse economic conditions.

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RETURN ON CAPITAL EMPLOYED

This ratio shows the return on capital employed (share capital, reserve, retained earning and long
term borrowings) used in the organization.

= PBT

Capital employed

INTEREST COVERAGE RATIO:-

This is a measure of the protection available to creditors for payment of interest charges
by the company. The ratio shows whether the company has sufficient income to cover its
interest requirements by a wide margin. The interest coverage ratio is computed by
dividing profit before interest and tax by the interest expenses.

Profit before Interest and Tax (EBIT)

Interest

DEBTORS TURNOVER RATIO:

Debtors constitute an important constituent of current assets and therefore the quality of
debtors to great extent determines that firms liquidity. There are two ratios. They are:

1) Debtors turnover Ratio

2) Debtors collection period Ratio
Debtors turnover can be calculated by dividing total sales by balance of debtors.

Debtors turnover = Credit Sales

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 Account Receivable

CREDITORS TURNOVER RATIO:

Creditors turnover = Credit Purchase

Account Payable

COMPANY PROFILE.

Lakshmi Vilas Bank (LVB) was founded eight decades ago in 1926 by seven people of
Karur under the leadership of VSN RamalingaChettiar, mainly to cater to the financial
needs of varied customer segments. The bank was incorporated on November 03, 1926
under the Indian companies act, 1913 and obtained the certificate to commence business
on November 10, 1926, the bank obtained its license from Reserve Bank of India (RBI)
in June 1958 and in August 1958 it became a scheduled commercial bank.

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During 196165 LVB took over nine banks and raised its branch network considerably.
To meet the emerging challenges in the competitive business world, the bank started
expanding its boundaries beyond Tamil Nadu from 1974 by opening branches in the
neighboring states of Andhra Pradesh, Karnataka, Kerala, Maharashtra, Madhya Pradesh,
Gujarat, West Bengal, Uttar Pradesh, Delhi and Pondicherry.

Mechanization was introduced in the head office of the bank as early as 1977. At present,
with a network of 249 branches, 3 satellite branches and 6 extension counters, spread
over 14 states and the union territory of Pondicherry, the bank focus is on customer
delight, by maintaining high standards of customer service and amidst all these new
challenges, the bank is progressing admirably. LVB has a strong and wide base in the
state of Tamil Nadu, one of the progressive states in the country, which is politically
stable and has a vibrant industrial environment. LVB has been focusing on retail banking,
corporate banking and bank assurance.

The bank business crossed Rs. 12,606 crores as on March 31, 2009. The bank earned a
net profit of Rs. 50.30 crores. The net owned fund of the bank reaches Rs 453.70 crore.
With a fairly good quality of loan assets the net NPA of the bank was pegged at 1.24 % as
on March 31, 2009.

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Name of the Company : Laxmi Vilas Bank Limited

Chairman : Mr. Md. AshrafulMoqbul

CEO & Managing Director : Mr. Md. ObayedUllah Al Masud

Company Secretary : Mr. A.K.M SajedurRahman Khan

Legal Status : Public Limited Company

Genesis : Emerged as Nationalised Commercial Bank in 1972,

following the Bangladesh Bank (Nationlisation) Order No.
1972 (PO No.26 of 1926)
Date of Incorporation : 03 November, 1926

Registered Office : 35-42, 44 Motijheel Commercial Area, Dhaka, Bangladesh

Authorized Capital : Taka 6000.00 Crore

Paid-up Capital : Taka 3830.00 Crore

Number of Employee : 22,446

Number of Branches : 1208

Phone-PABX : 9550426-31, 33, 34, 9552924

FAX : 88-02-9561410, 9552007

SWIFT : BSONBDDH

Website : www.Laxmivilasbank.com

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 BALANCE SHEET OF LAXMI VILAS BANK AS ON
31STMARCH , 2016

Parameter MAR'16 MAR'15

( Cr.) ( Cr.) %Chang
e

SOURCES OF FUNDS

Share Capital 179.46 179.17 0.16%

Share warrants & Out standings 0.00 0.00 0.00%

Total Reserve 1,584.13 1,376.98 15.04%

Shareholder's Funds 1,763.59 1,556.14 13.33%

Deposits 25,430.9 21,964.2 15.78%

6 1

Borrowings 723.01 458.10 57.83%

Other Liabilities & Provisions 814.60 726.98 12.05%

TOTAL LIABILITIES 28,732.1 24,705.4 16.30%

6 4

APPLICATION OF FUNDS:

Cash and balance with Reserve Bank of India 1,286.50 1,143.44 12.51%

Balances with banks and money at call and short 82.11 175.28 -53.16%
notice

Investments 6,545.40 6,051.16 8.17%

Advances 19,643.7 16,352.0 20.13%

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 4 2

Gross Block 609.37 449.10 35.69%

Less : Accumulated Depreciation 242.38 205.69 17.84%

Less : Impairment of Assets 0.00 0.00 0.00%

Net Block 367.00 243.41 50.77%

Lease Adjustment 0.00 0.00 0.00%

Capital Work in Progress 0.00 0.00 0.00%

Other Assets 807.41 740.13 9.09%

TOTAL ASSETS 28,732.1 24,705.4 16.30%

6 4

Contingent Liability 3,687.01 2,903.12 27.00%

Bills for collection 884.43 632.38 39.86%

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Profit And Loss For The Year Ended 31st March, 2016

Parameter MAR'16 MAR'15 Change %

( Cr.) ( Cr.)
I. INCOME
Interest Earned 2,568.30 2,214.53 15.97%
Other Income 304.53 284.03 7.22%
Total Income 2,872.83 2,498.56 14.98%
II. EXPENDITURE
Interest Expended 1,922.99 1,687.88 13.93%
Operating Expenses 542.71 442.28 22.71%
PBIDT 407.12 368.41 10.51%
Provisions and Contingencies 176.89 180.20 -1.84%
Profit Before Tax 230.24 188.21 22.33%
Taxes 50.00 55.92 -10.59%
Total 2,692.60 2,366.28 13.79%
III. Profit & Loss
PAT 180.24 132.29 36.25%
Extraordinary Items 0.00 0.00 0.00%
Profit brought forward 0.08 0.07 20.35%
Adjusted Net Profit 0.00 0.00 0.00%
Total Profit & Loss 180.24 132.29 36.25%
Appropriations 180.32 132.35 36.24%
Equity Dividend (%) 30.00 20.00 50.00%
Earnings Per Share (in ) 10.04 7.38 36.02%
Book Value (in ) 88.70 82.48 7.55%
I. INCOME
Interest Earned 2,568.30 2,214.53 15.97%
Other Income 304.53 284.03 7.22%
Total Income 2,872.83 2,498.56 14.98%
II. EXPENDITURE
Interest Expended 1,922.99 1,687.88 13.93%
Operating Expenses 542.71 442.28 22.71%
PBIDT 407.12 368.41 10.51%
Provisions and Contingencies 176.89 180.20 -1.84%
Profit Before Tax 230.24 188.21 22.33%
Taxes 50.00 55.92 -10.59%
Total 2,692.60 2,366.28 13.79%

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III. Profit & Loss
PAT 180.24 132.29 36.25%
Extraordinary Items 0.00 0.00 0.00%
Profit brought forward 0.08 0.07 20.35%
Adjusted Net Profit 0.00 0.00 0.00%
Total Profit & Loss 180.24 132.29 36.25%
Appropriations 180.32 132.35 36.24%
Equity Dividend (%) 30.00 20.00 50.00%
Earnings Per Share (in ) 10.04 7.38 36.02%
Book Value (in ) 88.70 82.48 7.55%

LAKSHMI VILAS BANK RATIOS

Name Ratio Good/Not Description
Good
Current 0.99 > 2 is Good, A liquidity ratio that measures a companys ability to
Ratio (x) < 2 is Not pay short-term obligations. The higher the current ratio,
Good the more capable the company is of paying its
obligations.
Quick 26.6 > 1 is Good, The quick ratio measures a company's ability to meet its
Ratio (x) 9 < 1 is Not short-term obligations with its most liquid assets. For
Good this reason, the ratio excludes inventories from current
assets
Dividend 1.89 > 1.5 is A financial ratio that shows how much a company pays
Yield (%) Good, out in dividends each year relative to its share price.
< 1.5 is Not Dividend yield is calculated as annual dividends per

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 Good share divided by market price per share.

Interest 1.23
> 2 is Good, It is used to determine how easily a company can pay
Coverage < 2 is Not interest on outstanding debt. It is calculated by dividing
Ratio (x) Good a companys EBIT by the interest expenses.
(For Banks
& NBFC
this is not
Valid)
Debt 15.9 < 2 is Good, A measure of a companys financial leverage calculated
Equity 8 > 2 is Not by dividing its total liabilities by stockholders equity.
Ratio (x) Good The debt/equity ratio also depends on the industry in
(For Banks which the company operates.
& NBFC
this is not
Valid)
Return On 17.9 > 5% is An indicator of how efficient management is at using its
Asset (%) 7 Good, assets to generate earnings. Calculated by dividing a
< 5% is Not companys annual earnings by its total assets
Good
Return On 11.32 > 18% is Also called Return on net worth, it measures a
Equity Good, companys profitability by revealing how much profit a
(%) < 18% is company generates with the money shareholders have
Not Good invested, it is calculated by dividing the net profit after
tax by shareholder's fund For high growth companies
you should expect a higher ROE.

SOLVED QUESTIONS
The following illustration explains composition and quality of Current Assets are more important
to comment on adequacy of current ratio, not merely basing on crude figures of current ratio.

BALANCE SHEET as on 31st March, 2006

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 (Rs. in thousands)

X Z X Z

Liabilities Assets

Share Capital 400 600 Fixed Assets 100 100

Sundry
Creditors 600 400 Cash 50 10
Stock 150 700
Debtors 700 190

1,00 1,00
1,000 1,000 0 0

Let us analyze the current ratio of both the companies X and Z.

Current Assets
Current Ratio =
Current Liabilities

Cash +Stock + Debtors

=
Creditors

= 50 150 700

Current Ratio of X
600

= 1.5

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 Current Ratio of Z = 10 700 190

400

= 2.25

Illustration 1

(A) The only current assets possessed by a firm are cash Rs. 1,05,000, inventories Rs. 5,60,000
and debtors Rs. 4,20,000. If the current ratio for the firm is 2:1, determine its current liabilities.

(B) At the close of the year, a company has an inventory of Rs. 1,50,000 and cost of goods sold
Rs. 9,75,000. If the companys turnover ratio is 5, determine the opening balance of
inventory.

Solution:
Rs.
(A) Current Assets
Cash 1,05,000
Inventories 5,60,000
Debtors 4,20,000
Total current Assets 10,85,000

Current ratio of the firm is 2:1. If current assets are 2, Current liabilities are 1.

Current Assets

Current Ratio = Current Liabilities =2

10,85,000

Current Liabilities = 2

Current liabilities = 10,85,000

2

= 5,42,500

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Illustration 2

The only current assets possessed by a firm are cash Rs. 1,05,000, inventories Rs. 5,60,000 and
debtors Rs. 4,20,000. If the current ratio for the firm is 2:1, determine its current liabilities.

At the close of the year, a company has an inventory of Rs. 1,50,000 and cost of goods sold Rs.
9,75,000. If the companys turnover ratio is 5, determine the opening balance of inventory.

Solution:

Rs.

(A) Current Assets

Cash 1,05,000

Inventories 5,60,000

Debtors 4,20,000

Total current Assets 10,85,000

Current ratio of the firm is 2:1. If current assets are 2, Current liabilities are 1.

Current Assets

Current Ratio = Current Liabilities =2

10,85,000

Current Liabilities = 2

Current liabilities = 10,85,000

2

= 5,42,500
ILLUSTRATION NO. 3

The capital employed in a business has been financed, as below:

Rs.

Equity Share Capital 6,00,000

7% Preference Share Capital 4,00,000

6% Debentures 8,00,000

Reserves and Surplus 2,00,000

20,00,000

The company earns a profit of Rs. 4,00,000 before interest. Tax rate may be taken 50%. You are
required to:

(A) Explain the principles of Trading on Equity and Test the data for the principle.

(B) Elaborate the impact of changes in EBIT, both increase and decrease, on Return on capital employed
(ROCE) and Return on equity (ROE) with suitable examples, making the required valid assumption.

Solution:

(A) The process of using the debt in capital employed to magnify the return of equity shareholders
is called Trading on Equity.

The extent of benefit of debt depends on capital gearing ratio. If capital gearing of the company is
more than one, with the increase of EBIT, there would be a similar corresponding increase in ROCE.
Similarly, ROE also increases. But, the important point is the % increase of ROE would be more than %
increase of EBIT. The reverse also is true. To explain further, if EBIT increases by 10%, ROCE increases
by 10%. But, ROE increases more than by 10%. If EBIT falls by 10%, the ROCE also falls, similarly, by
10%. But, ROE falls more than 10%.
 For this reason, trading on equity is said to be double-edged sword.

The capital-gearing ratio can be ascertained as under:

Capital Gearing Ratio = (Preference Share Capital + Debentures) / (Equity Share Capital + Reserves
and Surplus)

4,00,000 + 8, 00, 000

6,00,000 + 2,00,000

= 12,00,000

8,00,000

= 1.5

(B) Impact of Change in EBIT on ROCE and ROE

Capital Employed = Equity Share Capital + Reserves + Preference Share Capital + Debentures

+Long-term Loan

= 6,00,000 + 2,00,000 + 4,00,000 + 8,00,000

= 20,00,000

EBIT

Return on Capital Employed = Capital Employed

4,00, 000
Return on Capital Employed = 100
20,00,000

= 20%

Return on Equity = Profits after TaxPreference Dividend

Equity Shareholders' Funds

Profits Available to Equity Shareholders:

EBIT 4,00,000

Less Interest on Debentures

6% on Rs. 8,00,000 48,000

3,52,000

Tax @ 50% 1,76,000

Profit after Tax 1,76,000

7% Preference Dividend

on Rs. 4,00,000 28,000

Profits Available to equity Shareholders 1,48,000

Return on Equity =Profits after Tax Preference Dividend

Equity Shareholders' Funds

= 1,48,000100 = 18.5%

8,00,000

Let us presume that there is a change of EBIT by 50%.

If EBIT increases by 50%:

EBIT becomes Rs. 6,00,000.

6, 00, 000 Return on

100
Capital Employed = 20, 00, 000

= 30%
Profits Available to Equity Shareholders:

EBIT 6,00,000

Less Interest on Debentures

6% on Rs. 8,00,000 48,000

5,52,000

Tax @ 50% 2,76,000

Profit after Tax 2,76,000

7% Preference Dividend

on Rs. 4,00,000 28,000

Profits Available to Equity Shareholders 2,48,000

Profits After Tax Preference Dividend

Return on Equity to shareholders =
Equity Shareholders' Funds

= 2, 48,000100 = 31%

8,00,000

So, if EBIT increases by 50%, ROCE also has increased by similar 50% (from 20% to

12.5 30%). But ROE
has increased by 67.57% (increased from 18.5% to 31% i.e. 18.5100 )

If EBIT falls by 50%:

EBIT becomes Rs. 2,00,000.

2, 00, 000
Return on Capital Employed = 100
20, 00, 000

= 10%
 Profits Available to Equity Shareholders:

EBIT 2,00,000

Less Interest on Debentures

6% on Rs. 8,00,000 48,000

1,52,000

Tax @ 50% 76,000

Profit after Tax 76,000

7% Preference Dividend

on Rs. 4,00,000 28,000

Profits Available to Equity Shareholders 48,000

Return on Equity Profits after Tax Preference

= Dividend
Equity Shareholders' Funds

= 48,000 x 100

8,00,000

= 6%
ILLUSTRATION NO. 4

From the following information of Cherry & Cherry Company Ltd., prepare the balance sheet and
compute the return on capital employed (ROCE), Return on Total Assets (ROTA) and Return on Equity
(ROE):

Rs.
Current Assets 1,00,000
Investments in Treasury Bonds 1,00,000
Fixed Assets 5,00,000
Sales 5,00,000
Cost of Goods Sold 3,00,000
10% Debentures 1,00,000
Income from Treasury Bonds 10,000
Interest on Debentures 10,000
10% Preference Share Capital 1,00,000
Equity Share Capital 2,00,000
Capital Reserve 1,00,000
Provision for Tax at 30% of Net Profits

Cherry & Cherry Company Ltd.

Profit and Loss Account for the year ended 31st March, 2005
Rs. Rs.
To Cost of Goods Sold 3,00,00 By Sales 5,00,0
0 00
To Interest on Debentures 10,000 By Income from

To Provision for Taxation 60,000 Treasury bonds 10,000

To Net Profit after Tax 1,40,00

0
5,10,00 5,10,0
0 00
 Liabilities Assets

Share Capital 600 Fixed Assets 100

Sundry Creditors 400 Cash 10

Stock 700

Debtors 190

1,000 1,000

EBIT**
Capital Employed (ROCE) = Capital Employed

EBIT = Net Profits + Interest + Tax Non Operating Income

= 1,40,000 + 10,000 + 60,000 10,000

= 2,00,000

Capital Employed = Net Fixed Assets + Current Assets Current Liabilities (Provision for
Taxation)

= 5,00,000 + 1,00,000 60,000

= 5,40,000
Return on Equity =
Net Profits after Tax Preference Dividend = 1,40,000 10,000
Equity Shareholders' Funds 2,00,000 +1,00,000 +1,40,000

* Provision for tax is calculated as under:

Profits before = 5,00,000 + 10,000 ( 3,00,000 +

Tax 10,000)
= 2,00,000

Tax @ 30% = 60,000

** EBIT does not include income from Treasury Bonds as it is non-operating income. So, total assets, also, should not
include the relevant assets Treasury Bonds. When income is excluded, relevant assets of

that income are also to be excluded for proper matching.