Interpreting published accounts

Interpreting published accounts

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11/1/11 1:17 PM
The concept of ratio analysis
Ratio analysis based mainly on data extracted from the firm's financial
accounting records ­ usually the balance sheet and income statement.
However, for some ratios, information need to be extracted from the
management accounting information or other sources.
What is ratio?
A ratio s a comparison of a figure with another figure, where the
relative values of the two numbers can be used to make a judgment
Different groups of people use the information provided in a company's
accounts in order to judge a firm's situation. Some actual figures in the
accounts such as net profit can be used to draw conclusions about a
company's performance. However, much more meaningful conclusions
can be drawn by comparing this figure with another.
Ratio analysis also allows a business to compare itself with other firms,
taking into consideration differences in a size or circumstances.
Similarly, it can be used to compare the relative efficiency of different
parts of a business, such as departments, stores or factories. However
no two business or departments operate in identical circumstances and
so, at best, ratio analysis can only act as a guide to performance.
Stages in using ratio analysis
in ratios are to prove useful, careful selection and organisations are
needed. The following process will help businesses to take full
advantage of ratio analysis:
1. Identify the reason for the investigation. Is the information needed
to decide whether to become an investor, customers or supplier, or
its being used by the organisation itself to improve its own efficiency
2. Decide on the relevant ratio that will help to achieve the purpose of
the users
3. Gather the information required and then calculate the ratios
4. Interpret the ratio, what is the meaning of the results that have
been obtained
5. Make appropriate comparisons in order to understand the significance
of the ratio
6. Take action in accordance with the results of the investigation
7. Apply the above processes again, to measure the success of the
To interpret a ratio, it should be compared with other results, so that
company can be judged in relative terms. The main bases for
comparisons are as follows:

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Inter-firm comparisons ­ comparisons between companies.
Intra-firm comparisons ­ with in a company, for examples comparing
Comparisons to a standard ­ certain levels of performance s are
recognized as efficient within the business community.…read more

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