FINANCIAL RATIO ANALYSIS- Meaning, objectives and Steps

 .FINANCIAL RATIO ANALYSIS

 Introduction

The financial statement contains a wealth of information and it provides valuable insight into a firm’s financial performance and position. The balance sheet and income statement provides an overview financial background which is not sufficient information to creditors and investor to make their investment decision exactly; they need detailed and careful investigation about the financial condition of firm. The comprehensive assessment of financial statement exhibits company’s strength and weakness. For this purpose ratio analysis is far the most widely used tool. Different ratios are used for different purposes which are calculated from the accounting data contained in the financial statement.

Ratio analysis is indispensable part of interpretation of results revealed by the financial statements. It provides users with crucial financial information and points out the areas which require investigation. Ratio analysis is a technique which involves regrouping of data by application of arithmetical relationships, though its interpretation is a complex matter. It requires a fine understanding of the way and the rules used for preparing financial statements.

Meaning of ratio

As ratio represent a relationship between figures or it comparison of the numerator with denominator. The term ratio refers to the numerical or quantitative relationship between two figures.                                                                        

A financial ratio is defined as relationship between two variables taken from a financial statement of a concern. It is a mathematical yardstick that measures the relationship between two financial figures. It involves breakdown for the examined financial report into components parts which are then evaluated in relation to each other and to exogenous standards. Ratio analysis is an instrument for diagnosis for the financial health of an enterprise.

 OBJECTIVES OF RATIO ANALYSIS

1.    To know the areas of the business which need more attention

2.    To know about the potential areas which can be improved with the effort in the desired direction

3.    To provide a deeper analysis of the profitability, liquidity, solvency and efficiency levels in the business

4.    To provide information for making cross-sectional analysis by comparing the performance with the best industry standards; and

5.    To provide information derived from financial statements useful for making projections and estimates for the future.

STEPS IN RATIO ANALYSIS

Set the Objectives of Ratio Analysis

The first steps of ratio analysis is set objectives and purpose clearly, the reason to  examine financial statement is provide some valuable information about companies strength and weakness so for the management can take right decision according to the situation.

Collection of Relevant Data

The financial analyst should collect the relevant data which are already available in the various functional areas such as sales transaction details from sales department, financial planning, fund collection, fund deployment and fund management details from finance department and material and manufacturing expenses details from production department etc.   Data are recorded in the monetary value should be collected.

Select Appropriate Information

The important task of the financial analyst is to collect and select the information relevant to the decision under consideration from the statements and calculates appropriate ratios.

Analysis of Information or Ratios Calculation

The main and core step in the ratio analysis is analysis of information or calculation of ratios. The financial statements and collected relevant information can be analyzed by using of various financial ratios, such as solvency ratios, profitability ratio and turnover ratio.

Compare Calculated Ratios

Through the analysis steps each ratio can be provide some result, it is the role of financial analyst to compare the calculated ratios with the ratios of the same firm relating to past, other similar business concern ratio or with the industry ratios. This step facilitates in assessing success or failure of the firm.

Interpretation and Reporting

This step involves interpretation, drawing of inferences and report-writing. Conclusions are drawn after comparison in the shape of report or recommended course of action.

Review and Decision making

Finally, the entire analysis part may be reviewed to check whether the analysis reached or matched with objectives, and based on interpretation report the present alternatives with comparative merits the situation business decision can be taken.    

Mutual Funds- Types and Schemes.

 

Mutual Funds: Types and Schemes

A mutual fund is a financial instrument where funds from multiple investors are pooled and professionally managed to invest in a diversified portfolio of securities, such as stocks, bonds, or other assets. Mutual funds are ideal for individuals who want to invest but lack the expertise or time to manage their investments directly.

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Types of Mutual Funds

Mutual funds can be categorized based on their structure, investment objectives, and underlying assets:

1. Based on Structure

1. Open-Ended Funds:    

   • Investors can buy or sell units at any time.
   • No fixed maturity period.
   • Prices are based on the Net Asset Value (NAV), calculated daily.
   • Example: Large-cap equity funds.

2. Close-Ended Funds:

   • Have a fixed maturity period (e.g., 3, 5, or 10 years).
   • Units can only be bought during the New Fund Offer (NFO) and are traded on stock exchanges.
   • Example: Fixed-term funds.

3. Interval Funds:

   • A hybrid of open-ended and close-ended funds.
   • Open for purchase or redemption at specific intervals.
   • Example: Infrastructure-focused funds.

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2. Based on Asset Class

1. Equity Funds:

   • Invest primarily in stocks or equity-related instruments.
   • Aim for long-term capital appreciation.
   • Examples:
     • Large-cap funds: Invest in established, large companies.
     • Mid-cap and small-cap funds: Focus on mid-sized or smaller companies with higher growth potential but more risk.
     • Sectoral/Thematic funds: Concentrate on specific sectors like IT, healthcare, or energy.

2. Debt Funds:

   • Invest in fixed-income securities like bonds, debentures, and treasury bills.
   • Provide stable returns with lower risk compared to equity funds.
   • Examples:
     • Liquid funds: Short-term investments in low-risk securities.
     • Gilt funds: Invest in government securities.
     • Corporate bond funds: Invest in high-rated corporate debt.

3. Hybrid Funds:

   • Combine investments in both equity and debt instruments to balance risk and return.
   • Examples:
     • Balanced funds: Typically maintain a 50-50 allocation between equity and debt.
     • Arbitrage funds: Use the price difference between cash and derivatives markets to generate returns.

4. Money Market Funds:

   • Invest in short-term instruments like treasury bills, certificates of deposit, and commercial papers.
   • Offer high liquidity and safety with moderate returns.

5. Index Funds:

   • Track a specific index like the Nifty 50 or Sensex.
   • Provide returns similar to the performance of the index with minimal management fees.

6. Exchange-Traded Funds (ETFs):

   • Trade like stocks on exchanges but represent a diversified portfolio.
   • Can track indices, commodities, or specific sectors.

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3. Based on Investment Objectives

1. Growth Funds:

   • Focus on capital appreciation over the long term.
   • Invest heavily in equities.

2. Income Funds:

   • Aim to provide regular income through investments in bonds and other fixed-income instruments.

3. Tax-Saving Funds (ELSS):

   • Offer tax benefits under Section 80C of the Income Tax Act.
   • Have a mandatory lock-in period of 3 years.
   • Primarily invest in equities.

4. Balanced Funds:

   • Strive for both income and capital growth by investing in a mix of equity and debt.

5. International/Global Funds:

   • Invest in foreign markets, offering geographical diversification.
   • Exposed to currency and geopolitical risks.

6. Sectoral/Thematic Funds:

   • Concentrate on specific sectors (e.g., banking, technology) or themes (e.g., ESG or infrastructure).

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Types of Mutual Fund Schemes

Mutual fund schemes are designed to cater to various investor needs:

1. Growth Schemes:

   • Suitable for investors seeking wealth creation over the long term.
   • Higher risk but potential for significant returns.

2. Income Schemes:

   • Target regular income with lower risk.
   • Preferred by conservative investors or retirees.

3. Liquidity Schemes:

   • Focus on short-term needs with high liquidity.
   • Invest in money market instruments.

4. Tax-Saving Schemes:

   • ELSS funds with tax benefits under Section 80C.
   • Suitable for investors looking for tax-efficient returns.

5. Capital Protection Schemes:

   • Ensure the safety of principal while aiming for moderate growth.
   • Invest primarily in debt instruments with limited equity exposure.

6. Pension Funds:

   • Designed for retirement planning.
   • Focus on long-term growth with tax benefits.

7. Dividend Schemes:

   • Pay regular dividends to investors.
   • Suitable for those seeking periodic income.

8. Systematic Investment Plan (SIP):

   • Allows regular, small investments in a mutual fund.
   • Ideal for disciplined savings and rupee cost averaging.

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Advantages of Mutual Funds

1. Diversification: Spread risk across a variety of assets.
2. Professional Management: Managed by experienced fund managers.
3. Liquidity: Easy entry and exit in most schemes.
4. Affordability: Low minimum investment requirements.
5. Tax Benefits: ELSS and other schemes offer tax savings.

Disadvantages of Mutual Funds

1. Market Risk: Subject to market fluctuations, especially equity funds.
2. Management Fees: Expense ratios can impact net returns.
3. Lock-In Period: Some schemes (e.g., ELSS) have mandatory lock-ins.

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Mutual funds cater to all types of investors, from conservative to aggressive. Choosing the right fund depends on your financial goals, risk tolerance, and investment horizon. Would you like further details on any specific fund type or scheme?

Types of working capital

 Types of working capital

Working capital, essential for a company's day-to-day operations, can be classified into different types based on its purpose, nature, and time frame. Here are the main types:

1. Gross Working Capital

• Definition: Refers to the total current assets a company holds. These assets include cash, accounts receivable, inventory, and other short-term assets.
• Purpose: Measures the company's investment in current assets, providing a snapshot of how much is available for day-to-day operations.

2. Net Working Capital

• Definition: Calculated as current assets minus current liabilities. It represents the excess of current assets over current liabilities.
• Purpose: Indicates the company's liquidity and its ability to cover short-term liabilities with its current assets. Positive net working capital suggests financial health, while negative indicates potential liquidity issues.

3. Permanent (or Fixed) Working Capital

• Definition: The minimum level of working capital required to operate smoothly, regardless of fluctuations in business activity. This part of working capital is "fixed" and does not usually vary with seasonal or business cycle changes.
• Purpose: Ensures the company has enough funds to maintain basic operations, such as paying for essential expenses like salaries, rent, and utilities.

4. Temporary (or Variable) Working Capital

• Definition: The additional working capital needed to support seasonal or temporary increases in business activity. This fluctuates based on short-term demands, such as increased inventory requirements during peak seasons.
• Purpose: Allows the company to manage seasonal demands or any temporary spikes in production and sales without disrupting daily operations.

5. Regular Working Capital

• Definition: The working capital needed for the company’s regular business activities under normal conditions.
• Purpose: Maintains the company's standard, ongoing operations and ensures steady functioning without any disruptions.

6. Reserve Working Capital

• Definition: An extra buffer of working capital kept aside for unexpected contingencies, such as economic downturns, unexpected expenses, or sudden dips in revenue.
• Purpose: Protects the company from unexpected financial stress, enabling it to handle emergencies without impacting core operations.

7. Seasonal Working Capital

• Definition: Similar to temporary working capital, this type specifically addresses the capital needed to manage seasonal changes in business activity.
• Purpose: Helps cover increased demand for products or services during certain times of the year, such as holidays or harvest seasons.

Each type of working capital plays a crucial role in helping companies balance daily operational requirements with flexibility to handle unforeseen challenges. Proper management of these types ensures liquidity, operational stability, and growth potential.

Evolution of Banking Institutions in India

 

Introduction and Evolution of Banking Institutions in India

Definition of Banking

—Banking Regulation Act, 1949, Section 5(b) defines banking as, 'accepting, for the purpose of lending or investment, of deposits of money from the public, repayable on demand or otherwise, and withdrawable, by cheque, draft, and order or otherwise.'

Evolution of Banking Institutions in India

I. Pre-Independence Phase (1786-1947)

• —The origin of the Banking system in India started with foundation of Bank of Calcutta in 1786.
• —Three presidency banks (British East India Company)

   ◦Bank of Bengal, (1809)

   ◦Bank of Bombay (1840) 

   ◦Bank of Madras (1843)

• —In 1935, the presidency banks merge together and formed a new bank named Imperial Bank of India.
• —The Imperial Bank of India subsequently named the State Bank of India.
• —The first Indian-owned Allahabad Bank (1865).
• —In 1895, the Punjab National Bank was established 
• —The Bank of India founded in 1906 in Mumbai.
• —1906 and 1913 - commercial banks established under Indian ownership

    ◦Canara Bank,  Central Bank of India,  ◦Bank of Mysore, ◦Indian Bank,◦Bank of Baroda

• —RBI (1935) The central Bank of India, RBI establish in 1935 on the recommendation of Hilton-Young Commission.
• —At that time, the Banking system was only covered the urban population and need of rural and agriculture sector was totally neglected.   

II. Post- Independence Phase (1947 to till)

• —The entire Banking sector was under private ownership.
• —The rural population to dependent on small money lenders
• —To solve these issues Gvt. nationalised the RBI in 1949.
• —In 1955 the Imperial Bank of India was nationalised and named the State Bank of India.
• —The Banking Regulation Act enacted in 1949.

III. Nationalisation Period (1969 to 1991)

• —In 1969, Government of India nationalised 14 major banks
• —Banks had national deposits were more than 50 crores.
• ◦Allahabad Bank, Bank of India , Punjab National Bank, Bank of Baroda, Bank of Maharashtra, Central Bank of India, Canara Bank
• ◦Dena Bank, Indian Overseas Bank, Indian Bank, United Bank, Syndicate Bank, Union Bank of India, UCO Bank        
• —The Indian Banking system immensely developed after nationalisation
• —the rural and weaker section of the society was still not covered under the system.

• —To solve these issues, the Narasimham Committee in 1974 recommended 
• —The establishment of Regional Rural Banks (RRB). On 2nd October 1975, 
• —RRBs were established with an objective to extend the amount of credit to the rural section of the society.
• —Six more banks further nationalised in the year 1980.
• —With the second wave of nationalisation, the target of priority sector lending was also raised to 40%.
• ◦Andhra Bank , Corporation Ban◦New Bank of India, Oriental Bank of Commerce, Punjab & Sindh Bank, Vijaya Bank

IV.  Liberalisation Phase (1990 to till)

• —In order to improve financial stability and profitability of Public Sector Banks,
• —The Government of India set up a committee under the chairmanship of Shri. M. Narasimham.
• —The committee suggested for no more nationalisation of banks.
• —Foreign banks would be allowed to open offices in India
• —Public sector banks and private sector banks should be treated equally
• —Adopt merchant banking and underwriting, retail banking, etc.
• —Now, foreign banks and Indian banks permitted to set up joint venture
• —10 Privates players got a license from the RBI to entry in the Banking sector.
• ◦Global Trust Bank, ICICI Bank, HDFC Bank, Axis Bank, Bank of Punjab, IndusInd Bank, Centurion Bank, IDBI Bank, Times Bank and Development Credit Bank. The Government of India accepted all the major recommendation of the committee

Role of Commercial Banks and Nationalisation of Bank

 

Commercial Banks and Nationalisation of Bank

Commercial Banks

Commercial Bank can be described as a financial institution, that offers basic investment products like a savings account, current account, etc to the individuals and corporates. Along with that, it provides a range of financial services to the general public such as accepting deposits, granting loans and advances to the customers.

Role of Commercial Banks

• —Accepting Deposits
• —Lending of Funds
• —Bank as an Agent

• ◦Collecting bills, draft, cheques, etc.
• ◦Paying the insurance premium, rent, loan installments, etc.
• ◦purchasing or redeeming securities, etc. in the stock exchange
• ◦Acting as an executor, administrator, or trustee of the estate of a customer
• ◦Also, preparing income tax returns, claiming tax refunds, etc.

• —General Utility Services
• ◦Issuing traveler cheques
• ◦Offering locker facilities for keeping valuables in safe custody
• ◦Also, issuing debit cards and credit cards etc.
• —Economic role
• ◦Accelerating the Rate of Capital Formation:
• ◦Provision of Finance and Credit
• ◦Developing Entrepreneurship
• ◦Promoting Balanced Regional Development
• ◦Help to Consumers

Nationalisation of Banks

• —According to the IMF (International Monetary Fund), “Nationalisation” is defined as “government taking control over assets and over a corporation, usually by acquiring the majority stake or the whole stake in the corporation”
• —In the Indian banking scenario, most public sector banks are referred to as Nationalised Banks.
• —bank nationalization in India proposed by the then Prime Minister Late Mrs. Indira Gandhi in July 19, 1969
• —1949 : Enactment of Banking Regulation Act
• —1955 : Nationalization of SBI (now it state owned)
• —1959 : Nationalization of SBI subsidiaries
• —1961 : Insurance cover extended to deposits
• —1969 : Nationalization of 14 major banks
• —1971 : Creation of credit guarantee corporation
• —1975 : Creation of regional rural banks
• —1980 : Nationalization of 6 banks with deposits over Rs. 200 crore.
• —Now in India there are 19 (except SBI) nationalised banks

Objectives of Nationalisation

• —To give service to agriculture sector to promote agriculture production and rural development.
• —To give credit and other facilities to small entrepreneurs.
• —Ending the control of big business houses.
• —To create development professional management atmosphere in banking sector.
• —Widening banks branch network in rural and semi-urban area.
• —Mobilization of saving through bank deposits.
• —Re-orientation of credit flows.

The impact of nationalization on Indian Banking

• —40 % proportion of net bank credit to agriculture and the weaker section
• —Banks open offices in rural and semi-urban areas
• —Banks maintain a credit deposit ratio of 60% in rural and semi urban areas.
• —To monetary and credit policy, banks required to formulate a credit plan
• —Credit Authorization Scheme was introduced.
• —Lending rate structure was built up
• —Regional Rural Banks were setup to meet the credit needs of the weak section.
• —To ensure that credit given by banks were used in development plan;
• —The district credit plans and annual action plan were formulated.

MATERIAL COST

Meaning of Material Cost

 Material cost is the significant constituent of the total cost of any product. It constitutes 40% to 80% of the total cost. The percentages may differ from industry to industry. But for manufacturing sector the material costs are of greatest significance. Inventory also constitutes a vital element in the Working Capital. So it is treated as equivalent to cash. Therefore the analysis and control on Material Cost is very important.

Objectives of Material Control System

Material Control: The function of ensuring that sufficient goods are retained in stock to meet all requirements without carrying unnecessarily large stocks.

The objectives of a system of material control are as following:-

(a) To make continuous availability of materials so that there may be uninterrupted flow of materials for production. Production may not be held up for want of materials.

(b) To purchase requisite quantity of materials to avoid locking up of working capital and to minimize risk of surplus and obsolete stores

(c) To make purchase competitively and wisely at the most economical prices so that there may be reduction of material costs

(d) To purchase proper quality of materials to have minimum possible wastage of materials

(e) To serve as an information centre on the materials knowledge for prices, sources of supply, lead time, quality and specification

Elements of Cost

 Elements of cost 

In cost accounting, the elements of cost represent the basic components that contribute to the total cost of producing goods or services. They are typically divided into three primary categories:

1. Materials

• Direct Materials: Raw materials that can be directly traced to the production of a specific product or service. For example, leather used in manufacturing shoes or wood in furniture production.
• Indirect Materials: Materials used in production that cannot be directly attributed to a specific product or are not a significant portion of the total cost. Examples include lubricants for machinery or cleaning supplies for the factory.

2. Labor

• Direct Labor: Wages paid to workers who are directly involved in the production process. This includes assembly line workers or craftsmen whose efforts can be directly associated with a product or service.
• Indirect Labor: Wages for employees who support the production process but are not directly involved in creating the product. Examples include maintenance staff, supervisors, and quality control inspectors.

3. Expenses

• Direct Expenses: Expenses that can be directly attributed to a specific product, project, or service, outside of material and labor costs. Examples might include special tools or equipment rental costs specific to a particular job.
• Indirect Expenses: Also known as overhead costs, these are expenses that cannot be directly traced to a particular product. They include:
  • Factory Overheads: Costs incurred within the production facility, such as utilities, depreciation of factory equipment, and factory rent.
  • Administrative Overheads: Costs associated with managing and administrating the business, like office salaries, office supplies, and rent.
  • Selling and Distribution Overheads: Costs related to selling and delivering the product to customers, including advertising, transportation, and warehousing costs.

These elements of cost help businesses allocate resources effectively, determine production costs, set pricing, and evaluate profitability. They are essential for making strategic decisions on cost control, budgeting, and profit analysis.