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Summative Assessment 2 Project 2

Ratio analysis can help measure business performance and set objectives. Ratios are calculated from financial statements and measure performance in key areas like liquidity, profitability, efficiency, and solvency. Liquidity ratios measure ability to pay debts with current assets. Profitability ratios measure profit generation ability. Efficiency ratios measure ability to efficiently use assets. Solvency ratios compare debts to equity and assets. Management can use ratios to compare performance to competitors, identify weaknesses, set benchmarks, and establish goals to improve specific areas. Ratios thus provide insight into a business's health and guide strategic decision making.

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Parvesh Sahotra
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85 views2 pages

Summative Assessment 2 Project 2

Ratio analysis can help measure business performance and set objectives. Ratios are calculated from financial statements and measure performance in key areas like liquidity, profitability, efficiency, and solvency. Liquidity ratios measure ability to pay debts with current assets. Profitability ratios measure profit generation ability. Efficiency ratios measure ability to efficiently use assets. Solvency ratios compare debts to equity and assets. Management can use ratios to compare performance to competitors, identify weaknesses, set benchmarks, and establish goals to improve specific areas. Ratios thus provide insight into a business's health and guide strategic decision making.

Uploaded by

Parvesh Sahotra
Copyright
© © All Rights Reserved
We take content rights seriously. If you suspect this is your content, claim it here.
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Download as DOCX, PDF, TXT or read online on Scribd
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Project 2

Explain in 500 to 900 words the following statement:


‘Ratio analysis can help in measuring business performance and setting objectives/
goals.’

Ratio Analysis is a quantitative technique to understand and analyse a company's


performance. Generally, a range of ratios is calculated and made available in a company's
financial statements such as Profit & Loss Statement, Balance Sheet, Cash Flow Statement
and Fund flow statements which would help us know the company's performance on various
scales. Ratios also help organizations in Budgeting, Forecasting and Planning.
Business Performance can be measured in terms of different ratios such as Liquidity ratios,
Profitability ratios, Efficiency ratios and Solvency ratios. Let us discuss each of the ratio
types in detail to understand how they help us in measuring the performance and set goals
accordingly.

Liquidity ratios help us measure an organization's ability to pay off its debts using its current
assets. The liquidity ratios can be further classified as Current Ratio, Quick Ratio, and
Working Capital Ratio. So, based on the outcome of the liquidity ratios, an organization can
analyse how healthy it is to borrow further loans/debts and it acts as an indicator to plan its
objectives of expansion/investment by borrowing loans.

Profitability ratios help us measure an organization's profit generating ability through its core
operations. Profitability ratios act as a great tool to understand and analyse the profit margin
an organization currently holds and make changes to the margin according to the organization
goals using Gross Margin and Net Margin ratios. Also, these ratios help us understand the
firm's ability to earn returns from its Assets from Return on Assets Ratio, Return of Equity
Ratio, Return on Capital Employed.

Efficiency ratios help us measure an organization's ability to efficiently make use of its assets
and liabilities and maximize its returns / profit generating capacity. Efficiency ratios are
further classified into Asset Turnover ratio, Inventory turnover ratio and Days' sales
inventory. Asset turnover ratio will interpret the efficiency of the organization to generate its
revenue from its assets. Inventory turnover on the other hand helps us understand the extent
the stock in hand could maximize the profits an organization can generate.

Finally, the Solvency ratios help us compare a firm's debts with its equity and assets to
evaluate its ability to pay off its long-term debts and its corresponding interest. Couple of
solvency ratios include Debt-Assets ratio, Debt-Equity ratio and Interest coverage ratio.
These are the basic ratios that can help an organization as an early warning for taking any
strategic decisions and setting up its goals. But there are a number of other complex ratios
like market prospect ratios and coverage ratios to effectively plan and take decisions
accordingly. Ratios not only help the management to take key decisions on performance and
goals, it acts as an indicator to shareholders, investors, creditors, agencies, analysts etc.

The management can also use the ratios to compare its performance with the other
competitors in the market. It is always better to compare with a competitor in the same
industry to be more relevant and direct. This could help a firm to set up benchmarks with
market leaders and give directions for setting up goals and take strategic decisions for the
firm's upliftment. In addition, comparison of ratios could be an indicator to identify the weak
spots to improvise the performance in the respective weak areas.

Hence, I hereby summarize that ratios act as an indicator to understand the performance and
identify weak areas to pay more attention and set up goals accordingly.

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