eam Uv Types of Ratio MRD) Join vedantu’s FREE Mastercaiss Join now Accounting Ratios Meaning Accounting ratios are an important business tool for analyzing financial statements. A ratio is defined as a mathematical number that can be calculated with respect to the relationship of two or more numbers and can be expressed as a ratio, percentage, and fraction. When a ratio is calculated by relating two accounting numbers derived from the financial statements, it is termed es an accounting ratio or financial ratio. It should be noted that accounting ratios represent the relationship between if any, the accounting numbers derived from the financial statement. Accounting ratios are essentially derived from the financial statements and their efficiency largely depends on the original numbers from which they are calculated. Therefore, if there are any errors found in the financial statements, the derived numbers in relation to the ratio analysis would also present an incorrect imprecise situation. Therefore, the ratios must be calculated using the numbers which ere meaningfully associated because a ratio calculated using the two unrelated numbers would hardly servo any purpose. For example, the office furnituro is Rs. 5,00,000 and thoir purchase is 10,00,000. The ratio of office furniture to purchase is 2 (5,00,000/10,00,000) but it hardly served any purposo as there is no relationship botwen the two aspects. What are Accounting Ratios? Accounting ratio, also known as the financial ratio, is the comparison of two or more financial data which are used to evaluate a business condition. It is an effective business tool that is used by shareholders, creditors, and all kinds of stakeholders to understand the profitability, strength, and financial status of a business. Accounting ratios are also widely used to examine business performance and accordingly business decisions can be made. What are the Different Types of Accounting Ratios?eam Uv Ratios are classified into two types namely traditional classification and functional classification. The traditional classification is based on the financial statement to which the determinants belong. Based on the traditional classification, ratios are classified as: 1. Statement of Profit and Loss Ratios: A ratio of two variables from the profit and loss statements is termed the statement of profit and loss ratio. For example, the ratio of gross profit to revenue generated from business operations is referred to as the gross profit ratio. It is calculated using both the figures derived from the profit and loss statement. 2. Balance Sheet Ratios: If both the variables of the ratios are from the balance sheet, then it is classified as the balance sheet ratios. For example, the ratio of current assets to current liabilities is termed the current ratio. It is calculated using both the figures derived from the balance sheet. 3. Composite Ratios: If the ratios are calculated using one variable trom the financial statement and another variable from the balance sheet, then it is termed composite ratios. For example, the ratio of credit revenue from business operations to trade receivables is termed the trade receivable turnover ratio. It is calculated using one variable from the profit and loss statement (credit revenue from business operations) and another variable (trade receivables) from the balance sheet statement On the Basis of Functional Classification, Ratios Are Classified as: 1. Liquidity Ratios: To meet business commitments, the business needs liquid funds. The ability of a business to pay the due amount to stakeholders as to when it is due is known as liquidity; the ratios calculated to measure it are known as liquidity ratios. The liquidity ratios are short-term in nature. They are calculated to measure the short-term solvency of the business i.e. the firm's ability to meet its current obligations. The most common type of liquidity ratios are: * Current Ratio * Quick or Liquid Ratioeam Uv 2. Solvency Ratio: The business solvency is determined by its ability to meet its contractual obligations towards stakeholders, specifically towards extemal stakeholders, and the ratios calculated to measure the business solvency positions are known as the solvency ratio. The solvency ratios are long-term in nature. The most common type of solvency ratio for calculating tho business solvency aro: * Debt-Equity Ratio * Debt to Capital Employed Ratio + Proprietary ratio * Total Asset to Debt Ratio * Interest Coverage Ratio 3. Activity or Turnover Ratio: These are the ratios that are calculated for measuring the efficiency of business operations based on the effective utilization of resources. Hence, these are also termed efficiency ratios. A higher turnover ratio means better utilization of assets and signifies improved business efficiency and profitability. The most important types of activity ratios are: * Activity Turnover Ratio + Trade Receivable Turnover Ratio * Trade Payable Turnover Ratio * Net Asset or Capital Employed Turnover Ratio + Fixed Asset Turnover Ratio, and + Working Capital Tumover Ratio 4. Profitability Ratios: Profitability ratios are referred to as analysis of business profits in relation to the revenue generated from the business operations ( or funds) or assets used in the business and the ratios calculated to meet its objectives are termed as profitability ratios. The most common types of profitability ratios that are used to analyze the profitability of the business areVedaniti, eam UNE Online * Gross Profit Ratio * Operating Ratio * Operating Profit Ratio * Net Profit Ratio + Return on Investment (RO!) or Return on Capital Employed (ROCE) * Return on Net Worth (RONW) * Earnings Per Share + Book Value Per Share * Dividend Payout Ratio * Price Earning Ratio Accounting Ratio Formulas Here, we will list the formulas of all the accounting ratios on the basic functional classification discussed above: Liquidity Ratio Formulas Current Asset Current Ratio Current Liabilities Quick Ratio Quick Asset _ Current Liabilities Liquid Ratio Liquid Asset _ Current Liabilities Solvency Ratios Debt Equity Long - Term Debts Ratio Shareholders Fundseam UNE Online Uapital Employed or Wet Assets Debtto Capital Employed Ratio Proprietary Shareholders Funds ratio Capital Employed or Net Assets Total Assetto | Total Asscts Debt Ratio Long - Term Debts a Net Profit Before Interest And Tax overage | ror eae Interest on Long - Term Debts atio Activity or Turnover Ratios one Cost of Revenue From Business Operations umover a Average Inventory Net Credit Revenue From Business Operations Trade Average Trade Receivables Receivable Tumover —_| Here, Average Credit Receivables = Ratio Opening Debtors and Bill Receivables + Closing Debtors and Bills 2 Net Credit Purchase Trade ‘Average Trade Payables Payable Ratio Here, Average Credit Payables = Tumover Ratio Opening Debtors and Bill Payables + Closing Debtors and Bills 2eam UNE Online Net Asset or Capital Employed "Fimowee Capital Employed Ratio bi Asset | Net Revenue From Business Operations unver | ror aia Net Fixed Assets Working Capital Net Revenue From Business Operations Tumovor Working Capital Ratio Profitability Ratios Gross Profit Ratio Gross Profit 2 me Net Revenue of Business Operations Operating Cost of Revenue From Business Operations + Operating Expen Ratio ‘Net Revenue From Business Operations Operating Profit RGF Fas OF Fron Pan fe Opemations * 100 geeraena evenue From Business Operations Front Rabo Revenue From Business Operations Here, Operating Profit = "4° “20m Dustness Dperations Operating Cost Net Profit Net Profit x 100 Ratio Revenue From Business Operations Returm on Investment (RON or Profit Before Interest And Tax Retumon Ee limped 100 capita apital Employe Employed (ROCE)eam UNE Online Return on Net Worth (RONW) or Retum on Shareholders Fund Shareholder’s x 100 Fund Eamings Per | Profit Available For Equity Sharcholders Share Number of Equity shares Book Value | Equity Sharcholders Fund Per Share Number of Equity shares Dividend Dividend Per Share Payout Ratio | Earning Per Share Price Earning | Markt Price of Share Ratio Earning Per Share Last updated date: 16th Jul 2023 + Total views: 272.1k - Views today: 3.41k Courses (Class 3 - 12) re NEET Crash JEE/NEET CBSE ICSE Foundation OlympiadVedaniti, eam UNE Online LIVE Masterclass Glass 1-5 English Social Science Spelling Quiz - Let's Test Your Spelling Mega LIVE Quiz | Federalism Skills 22nd, Jul 10:15 am [Disha singh 22nd, Jul 1130. am | Anindita Das Remind me Remind me Boia) Cea oe Mela aN iso Roa ER om alg t oCus insights, tips & Study Material to ace your exams. 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