Osim's Fianancial Ratio

IV. Financial Ratios

Many different financial ratios can be formed from items appearing in financial statements. But not all possible ratios are meaningful or useful. We need to form which ratios to evaluate operating performance or financial condition is a fundamental part of financial analysis. There are six aspects of operating performance and financial condition we can evaluate from financial ratios:

Ё Profitability

Ё Liquidity

Ё Activity

Ё Gearing

1. Profitability

Profitability is the net result of a number of policies and decisions. The ratio examined thus far provides useful clues as to the effectiveness of business's operations. The following ratios may be used to evaluate the profitability of the business:

- Return on ordinary shareholder's funds;

- Return on capital employed;

- Net profit margin;

- Gross profit margin;

- Return on investment;

- Return on equity;

1.1. Return on ordinary shareholders' funds (ROSF)

The return on ordinary shareholders' fund compares the amount of profit for the period available to the owners, with the owners' average stake in the business during that same period. The ratio expressed in percentage is as follows:

ROSF = x 100

2006 2005

ROSF = x 100 = 20.7% ROSF = x 100 = 30.1%

1.2. Return on capital employed (ROCE)

Return on capital employed (ROCE) is a fundamental measure of business performance. This ratio expresses the relationship between the net profit generated during a period and the average long-term capital invested in the business during that period. The ratio is expressed in percentage terms and is as follows:

ROCE = x 100

2006 2005

ROCE = x 100 = 21.0% ROCE = x 100 = 15.1%

1.3. Net profit margin

Net profit margin is calculated by dividing net profit before interest and taxation by sales, gives the profit per dollar of sales:

Net profit margin = x 100

2006 2005

NPM = x 100 = 9.7% NPM = x 100 = 8.4%

1.4. Gross profit margin

The gross profit margin ratio relates the gross profit of the business to the sales revenue generated for the same period. The gross profit margin ratio is calculated as follows:

Gross profit margin = x 100

Gross profit = Sales revenue - cost of purchase

2006 2005

GPM = x100=59.2% GPM = x100=50.8%

1.5. Return on Investment (ROI) or return on assets

ROI measures the rate of return on the total assets utilized in the business. A measure of management's efficiency, it shows the return on all the assets under its control regardless of source of financing. It is calculated as follows:

ROI = x100

2006 2005

ROI = x100 = X100 =8.5% ROI = x100 = X100=9.8%

1.6. Return on equity (ROE)

ROE measures the rate of return on the book value of shareholders' total investment in the business. This ratio is calculated as follows:

ROE= x100

2006 2005

ROE= x 100 = 21.0% ROE= x 100 = 27.4%

2. Liquidity

A liquid asset is one that trades in an active market and hence can be quickly converted to cash at the going market price, and a business's "liquidity ratios" deal with this question: Will the business be able to pay off its debts they come due over the next year or so? Will it have trouble satisfying those obligations? The following ratios are usually used:

- Current ratio

- Acid test ratio

2.1. Current ratio:

Current ratio is calculated by dividing current assets by current liabilities. It shows that how much of current assets are available to cover each dollar of current liabilities. It shows the business's ability to pay its liabilities in a short-term.

Current ratio=

2006 2005

Current ratio = = 1.02 times Current ratio= = 1.07 times

2.2. Acid test ratio

Acid test ratio or quick is calculated by deducting inventories from current assets and then dividing the remainder by current liabilities. It is a measures the business's ability to pay off its short-term obligations from current assets excluding inventories.

Acid test ratio (quick)=

2006 2005

Acid test ratio= =0.43 times Acid test ratio = = 0.7 times

3. Efficiency (Activity ratios)

Activity ratios are measures of how well assets are used. Activity ratios-for the most part, turnover ratios-can be used to evaluate the benefits produced by specific assets, such as inventory or accounts receivable to evaluate the benefits produced by the totally of the business's assets. The following ratios are widely used: