Accounting Ratios

Liquidity Ratios
1) Current Ratio = CA/CL
a. Exclude Inventories & Stores and spares from Inventories.
b. Debtors are taken at Net value i.e., after deducting Provision for Doubtful Debts
c. Ideal Ratio = 2:1
d. Higher the Better but should not be very high
e. Whenever, short term solvency ratio is asked, calculate CR

2) Quick Ratio = QA/CL

a. QA = CA – Inventories(closing) – Prepaid expenses – Advances Taxes
b. Ideal Ratio = 1:1
Question: Calculate the current ratio & Quick Ratio from the following data:
Particulars Amount
Cash and cash equivalents 10,000
Trade receivables 71,000
Provision for doubtful debts 1,000
Short term investments 20,000
Inventory:
Raw materials 80,000
Finished goods 60,000
Loose tools 2,000
Stores and spares 3,000
Prepaid expenses 10,000
Plant and machinery 2,00,000
Provision for taxation 25,000
Outstanding expenses 5,000
Sundry creditors 70,000

Answer: Current Assets = Cash and cash equivalents + Trade receivables (after deducting provision for
doubtful debts) + Short term investments + Inventory (excluding loose tools & stores and spares) +
Prepaid expenses
Current Assets = 10,000 + (71,000-1,000) + 20,000 + (80,000+60,000) + 10,000
Current Assets = 2,50,000
Current Liabilities = Provision for taxation + outstanding expenses + sundry creditors
Current liabilities = 25,000 + 5,000 + 70,000
Current liabilities = 100,000
Current Ratio = 2,50,000 / 100,000 =2.5:1
Quick Asset = 2,50,000 – 1,40,000 – 10,000 = 1,00,000
Quick Ratio = 1,00,000/1,00,000 = 1:1
Question: Working capital Rs. 1,80,000; Total debts Rs. 3,90,000; Long-term debts Rs. 3,00,000;
Inventories Rs. 90,000.
Answer: Current liabilities = Total debts – long term debts = Rs. 3,90,000 – Rs. 3,00,000
Current liabilities = Rs. 90,000
Working capital = Current Assets – Current liabilities
Current Assets = 1,80,000 + 90,000 = Rs. 27,000
Quick Assets = Current Assets – Inventories = 270,000 – 90,000 = Rs. 1,80,000

Question: X Ltd. has a current ratio of 3:1 and quick ratio of 2:1. If the excess of current assets over
quick assets as represented by stock is Rs. 40,000, calculate current assets and current liabilities.

Answer: CA / CL = 3 & QA/CL = 2

(CA – 40,000) / CL = 2
3CL – 40,000 = 2CL => Current Liability = Rs. 40,000
CA = 3CL => Rs. 1,20,000

Question: The ratio of current Assets (Rs. 32,00,000) to Current liabilities (RS. 20,00,000) is 1.6:1.
The accountant of the firm is interested in maintaining a Current Ratio of 2:1, by paying off a part of
the Current Liabilities. Compute the amount of the Current Liabilities that should be paid, so that the
Current ratio at the level 2:1 may be maintained.

Answer: (32,00,000 – X ) / (20,00,000 – X) = 2

X = 8,00,000

Solvency Ratios
1) Debt to Equity = Debt/Equity
a. Debt here means Non – Current Liabilities
b. Equity = Shareholders’ Funds
c. Ideal Ratio = 2:1
d. Lower the better, for the company.

2) Total Assets to Debt = Total Asset/Debt

a. Total Assets include all the Assets, including loose tools, stores & spears. Also, Debtors
are taken at gross value
b. Higher the better, as it indicates assets are mainly financed by internal sources of funds

3) Proprietary Ratio = Shareholders’ Funds/Total Assets

a. Higher the better

4) Interest on coverage Ratio = PBIT / Interest on Debts

a. Profit Before Interest & Tax = Profit after Tax (Net Profit) + Tax + Interest on long term
debt
b. Higher the better
 5) Debt to Capital Employed Ratio (New Ratio) = Debt/Capital Employed
a. Lower the better
b. Capital Employed = Capital Employed = Shareholders’ Funds + Non-Current Liabilities –
Non-Trade Investments
Or, Total Assets – Current Liabilities – Non-Trade Investments
 Net Profit excludes income from non-trade investments
 If question is silent about investments, assume it to be Trade investments.

Question: Total Assets ₹ 2,60,000; Total Debts ₹ 1,80,000; Current Liabilities ₹ 20,000. Calculate Debt
to Equity Ratio.
Answer: Total Debt = Long term debt + Current liabilities
Long term debt = 1,80,000 – 20,000 = Rs. 1,60,000
Total Assets = Shareholder’s funds + Total debts
2,60,000 = Shareholders’ funds + 1,80,000
Shareholders’ funds = 80,000
Debt-Equity Ratio = 1,60,000 / 80,000 = 2:1

Question: Calculation the Debt Equity Ratio from the following: -

Question: Calculate Debt Equity Ratio, Proprietary ratio & Total Assets to Debt Ratio & Debt to Capital
Employed Ratio

Answer: 1. Debt to Equity ratio

Debt = 40,00,000 + 10,00,000 = 50,00,000
Equity = 10,00,000 + 15,00,000 = 25,00,000
 General reserves are already included in reserves and surplus
Debt/Equity Ratio = 50,00,000/25,00,000 = 2:1
2. Proprietary Ratio:
Shareholders’ Funds = 25,00,000
Total Assets = 16,00,000 + 4,00,000 + 80,00,000 – 15,00,000 = 85,00,000
25,00,000/85,00,000 = 0.29:1

3. Total Assets to Debt Ratio:

Total Assets = 85,00,000

Debt = 50,00,000
= 85,00,000/50,00,000 = 1.7:1

4. Debt to capital Employed Ratio

Capital Employed = Total Assets – CL => 85,00,000 – 10,00,000 = Rs. 75,00,000
Debt = Rs. 50,00,000
50,00,000/75,00,000 = 0.67:1

Question: Calculate the value of Current Assets of X Ltd. from the following information:

Answer: Proprietary Ratio = Shareholders’ Funds/ Total Assets

Shareholders’ Funds = 25,00,000 + 5,00,000 + 8,00,000 – 2,00,000 = 36,00,000
0.75 = 36,00,000/Total Assets
Total Assets = Rs. 48,00,000
Current Assets = 48,00,000 – 30,00,000 = Rs. 18,00,000

 When profit & loss balance is given , it will be considered while calculating shareholders’ funds
 Question: Calculate Debt/Equity Ratio & Interest coverage Ratio

Net Profit after Tax is Rs. 96,000 & Income tax rate is 50%
Answer:
Debt = 4,00,000 + 2,00,000 = Rs. 6,00,000
Equity =1,00,000 + 1,50,000 = Rs. 2,50,000
Debt/Equity = 6,00,000 /2,50,000 = 2.4 :1

 Remember, Net Profit is added to the shareholder’s funds but since here reserves & surplus is given,
we have not added Rs. 96,000 again.

Interest Coverage Ratio:

Profit before tax = PAT/ (1-tax rate)
96,000 / 0.5 = Rs. 1,92,000
Interest on debt = 24,000 + 40,000 = 64,000
Profit before interest & tax = 1,92,000 + 64,000 = Rs. 2,56,000

Interest Coverage Ratio = 2,56,000/64,000= 4 Times

Question: From the following Balance Sheet of HM Ltd.,

BALANCE SHEET OF HM LTD.
as at 31st March, 2022
Amount
Particulars Note No.
₹
I. EQUITY AND LIABILITIES
1. Shareholder's Funds
(a) Share Capital–Equity Shares of 5,00,000
₹ 10 each Fully paid
(b) Reserves and Surplus 4,20,000
2. Non-Current Liabilities
15% Long-term Borrowings 16,00,000
3. Current Liabilities 8,00,000
Total 33,20,000
II. ASSETS
1. Non-Current Assets
(a) Fixed Assets 16,00,000
(b) Non-Current Investments:
(i) 10% Investments 2,00,000
(ii) 10% Non-trade Investments 1,20,000
 2. Current Assets 14,00,000
Total 33,20,000

Additional Information: Net Profit after Tax for the year 2021-2 is Rs 9,00,000 & Tax rate is 40%
Calculate:
a) Interest coverage ratio
b) Debt to Capital Employed Ratio

Answers:
a) Interest coverage ratio:
Profit before tax = 9,00,000 / 0.60 => Rs. 15,00,000
Profit before interest & Tax = 15,00,000 - 12,000 (Interest on non-trade investments) + 2,40,000
= Rs. 17,28,000
Interest coverage Ratio = 17,28,000/2,40,000 = 7.2 Times
 Interest on non-trade investment is excluded while calculating profit before interest & tax.
 Non-trade investment is excluded while calculating capital employed.

b) Debt to capital employed ratio

Debt = Rs. 16,00,000
Capital Employed = 33,20,000 – 1,20,000 (non-Trade investments) – 8,00,000 (CL)
= Rs. 24,00,000
Debt to capital Employed Ratio = 16,00,000/24,00,000 = 0.67: 1

Question: From the following, calculate (a) Debt Equity Ratio (b) Total Assets to Debt Ratio (c)
Proprietary Ratio.

Rs
Equity Share Capital 75,000
Preference Share Capital 25,000
General Reserve 45,000
Balance in the Statement of Profits and Loss 30,000
Debentures 75,000
Trade Payables 40,000
Outstanding Expenses 10,000

(a)

Debt = Debentures = 75,000

(b)

(c)

Activity or Turnover Ratios

1. Inventory Turnover Ratios = COGS/Average Inventory

a. Average Inventory = (opening inventory+ closing inventory) /2
b. COGS = opening inventory + closing inventory + Direct expenses – closing inventory
Or, Cost of material consumed + purchases of stock in trade + changes in inventory of
Finished goods, work in progress and stock in trade (opening – closing) + Direct expenses
Direct expenses = Wages, carriage or freight inward, Power, Gas and fuel expenses
c. COGS = Sales – Gross Profit or Sales + Gross Loss
d. In case, COGS is not given and can’t be calculated, then we can use Revenue from
operations.
e. Higher the better
f. Average age of inventory(months) = 12/Inventory turnover ratio

2. Trade Receivable Turnover Ratio = Credit Sales / Average Trade Receivable

a. Provision for Doubtful Debt is not deducted while calculated the trade receivables.
b. Sometimes, only closing data is given so in that case that will be taken as average trade
receivables.
c. In case total sales is given and there is no information for cash or credit sales then we
will calculate the ratio using total sales.
d. Higher the better

 Debt Collection Period (Days) = 365 / Trade Receivable Turnover Ratio

 In months = 12/ Trade Receivable Turnover Ratios
 3. Trade Payables Turnover Ratio = Credit Purchases / Average Trade Payables
a. Average payment period (Months) = 12/Trade payable turnover ratio
b. Higher the better
c. If total purchases are given and no other information is mentioned, we will assume it as
credit purchases.

4. Working Capital Turnover Ratio = Revenue from operations/Working capital

a. Working capital = Current Assets – Current Liabilities
b. In case RFO is not given then we will calculate this ratio on the basis of COGS
c. Higher the better
5. Fixed Assets Turnover Ratio = Revenue from operations / Fixed Assets
6. Net Assets Turnover Ratio = Revenue from operations/ Net Assets
a. Net Assets is nothing, but capital employed, calculated in the exact same manner

Question: From the following information, determine Opening and Closing inventories:
Inventory Turnover Ratio 5 Times, Total sales ₹ 2,00,000, Gross Profit Ratio 25%. Closing Inventory is
more by ₹ 4,000 than the Opening Inventory.

Answer: Gross profit = 25% * 2,00,000 = Rs. 50,000

COGS = Sales – Gross profit = Rs. 1,50,000
Inventory turnover ratio = COGS / Average inventory
5 = 1,50,000/Average inventory
Average inventory = Rs. 30,000
Let opening inventory = x
Closing inventory = x + 4,000
30,000 = (x + x+4000) /2
X= Rs. 28,000
Opening Inventory = Rs. 28,000
Closing inventory = Rs. 32,000

Question: Purchases Rs. 5,70,000; Freight Rs. 20,000; Miscellaneous Expenses Rs. 10,000; Revenue
from Operations (Sales) Rs. 5,00,000; Closing Inventory RS. 70,000; Gross Loss 16% on Revenue from
operations.

Answer: Cost of revenue from Operations = Revenue from Operations (Sales) + Gross Loss
= Rs. 5,00,000 + 16% of 5,00,000 = Rs. 5,80,000
Cost of revenue from Operations = Opening Inventory + Purchases + Freight – Closing Inventory
Rs. 5,80,000 = Opening Inventory + Rs. 5,70,000 + RS. 20,000 – Rs. 70,000
Rs. 5,80,000= opening Inventory + Rs. 5,20,000
Opening Inventory = Rs. 60,000

Question: Closing Trade Receivables ₹ 4,00,000; Cash Sales being 25% of Credit Sales; Excess of Closing
Trade Receivables over Opening Trade Receivables ₹ 2,00,000; Revenue from Operations, i.e., Revenue
from Operations, i.e., Net Sales ₹ 15,00,000. Calculate Trade Receivables Turnover Ratio.
Answer: Cash sales + Credit sales = 15,00,000
0.25 x + x = 15,00,000 => 1.25x = 15,00,000
X = 12,00,000 => Credit sales = Rs. 12,00,000

Closing trade receivable – opening trade receivable = 2,00,000

Opening trade receivable = 4,00,000 – 2,00,000 = Rs. 2,00,000
Average Trade receivable = (2,00,000 + 4,00,000)/2 = Rs. 3,00,000
TRTR = 12,00,000/3,00,000 = 4 Times

Question: Capital Employed ₹ 12,00,000, Working Capital ₹ 2,00,000. Cost of Revenue from Operations
₹ 16,00,000, Gross Loss is 25% on Sales. Calculate Fixed Assets Turnover Ratio

Answer: Let sales be X

Sales = COGS – Gross Loss
X = 16,00,000 – 0.25X
Sales = Rs. 12,80,000
Fixed Assets = Capital Employed - Working capital
Fixed Assets = 12,00,000 – 2,00,000 = Rs. 10,00,000
Fixed Assets Turnover Ratio = 12,80,000/10,00,000 = 1.28 Times
Question: Following is the balance sheet of XYZ Limited:
Calculate: a) Inventory Turnover Ratio
b) Average age of inventory

Answer: a) COGS = 6,50,000 + (30,000) + 1,48,000 + 72,000 = Rs. 8,40,000

Average Inventory = (1,25,000 + 1,55,000) /2 = Rs. 1,40,000
Inventory Turnover Ratio = 8,40,000/1,40,000 = 6 times

b) Average age of inventory = 12/6 = 2 months

Question: A firm normally has trade Receivables equal to two months credit Sales. During the coming
year it expects Credit Sales of Rs. 7,20,000 spread evenly over the year (12 months). What is the
estimated amount of Trade Receivables at the end of the year?
Answer: Debt Collection Period = 12/Trade Receivable Turnover Ratio
2 = 12/TRTR
Trade Receivable Turnover Ratio = 6 times
6 = Credit sales / Average Trade Receivables
6 = 7,20,000 / Average Trade Receivables
Average Trade Receivables = Rs. 1,20,000
Since nothing is mentioned about opening trade receivable, we will assume it to be closing trade
receivables.

Question: Capital Employed Rs. 12,00,000; Net Fixed Assets 8,00,000; Cost of Goods Sold or Cost of
Revenue from Operations Rs. 40,00,000; Gross Profit is 20% on Cost. Calculate Working Capital
Turnover Ratio.

Answer:
Cost of Goods Sold = 40,00,000
Gross Profit = 20% of Cost
Gross Profit =20/100×40,00,000=8,00,000

Total Sales
= Cost of goods sold + Gross profit
=40,00,000+8,00,000
=48,00,000

Working Capital
= Capital employed – Net Fixed Assets
=12,00,000-8,00,000
=4,00,000

Working Capital turnover ratio

= Net sales /Working Capital
=48,00,000/4,00,000
= 12 Times
Profitability Ratios

1. Gross Profit Ratio = (Gross Profit / Revenue from operations) * 100

a. Higher the better
b. When GP% is given, it is always expressed in terms of sales

2. Operating Ratio = (Operating Cost/Revenue from operations) * 100

a. Operating Ratio = Operating expenses + COGS
b. Operating Expenses = Employee benefit expenses + Depreciation/Amortization + other
expenses like office expenses, selling and distribution expenses
c. Lower the better

3. Operating Profit Ratio = (Operating Profit / Revenue from operation ) * 100

a. Operating Profit = Revenue from operations – operating cost
Or, Gross profit – operating expenses
Or, Net profit + non-operating expenses – non-operating income
b. Higher the better
 Operating Ratio + Operating Profit Ratio = 100%

4. Net Profit Ratio = (Net Profit / Revenue from operations) * 100

a. Higher the better
b. Net Profit = Revenue – COGS – operating expenses – non operating expenses + operating
income + non-operating income - Tax
Or, Operating Profit – non operating expense + non- operating income – Tax

5. Return on Investment or Return on Capital Employed: (Net Profit before Interest, Tax &
Dividend / capital employed) * 100
a. Capital Employed = Shareholders’ Funds + Non-Current Liabilities – Non-Trade
Investments
Or, Total Assets – Current Liabilities – Non-Trade Investments
b. Net Profit excludes income from non-trade investments
c. If question is silent about investments, assume it to be Trade investments.
d. Higher the better

Question: From the following information, calculate Gross Profit Ratio:

₹ ₹
Credit Sales 5,00,000 Decrease in Inventory 10,000
Purchases 3,00,000 Returns Outward 10,000
Carriage
10,000 Wages 50,000
Inwards
Rate of Credit Sale to Cash Sale 4:1
 Answer: Credit sales / cash sales = 4
Cash Sales = 5,00,000/4 = Rs. 1,25,000
Total Sales = 6,25,000
COGS = 3,00,000 + 10,000 + 10,000 -10,000 + 50,000 = Rs. 3,60,000
Gross Profit = 2,65,000
Gross Profit Ratio = (2,65,000/6,25,000) * 100 = 42.40%
 Decrease in inventory = opening inventory – closing inventory
Question: Calculate Operating Ratio from the following information:
Operating Cost ₹ 6,80,000; Gross Profit 25%; Operating Expenses ₹ 80,000.

Answer: Operating cost = COGS + operating expenses

6,80,000 = COGS + 80,000
COGS = Rs. 6,00,000
Sales = COGS + Gross profit
X = 6,00,000 + 0.25X
X = Rs. 8,00,000
Sales = Rs. 8,00,000
Operating Ratio = (6,80,000/8,00,000) * 100 = 85%
Question: Revenue from Operations, i.e., Net Sales ₹ 8,20,000; Return ₹ 10,000; Cost of Revenue from
Operations (Cost of Goods Sold) ₹ 5,20,000; Operating cost ₹ 2,09,000; Interest on Debentures ₹
40,500; Gain (Profit) on Sale of a Fixed Asset ₹ 81,000. Calculate Net Profit Ratio.

Answer: Net Profit = Net Sales – operating cost – non operating expense + non-operating income
Net Profit = 8,20,000 – 2,09,000 – 40,500 + 81,000 = Rs. 6,51,500
Net Profit Ratio = (6,51,500 / 8,20,000) * 100 = 79.45 %
 Operating cost is given, no need to deduct COGS as it is already included in operating cost.

Question: From the following Balance Sheet of ABC Ltd., you are required to calculate Return on
Investment for the year 2018-19:
BALANCE SHEET OF ABC LTD.
as at 31st March, 2019
Amount
Particulars Note No.
₹
I. EQUITY AND LIABILITIES
1. Shareholder's Funds
(a) Share Capital–Equity Shares of 5,00,000
₹ 10 each Fully paid
(b) Reserves and Surplus 4,20,000
2. Non-Current Liabilities
15% Long-term Borrowings 16,00,000
3. Current Liabilities 8,00,000
Total 33,20,000
II. ASSETS
1. Non-Current Assets
(a) Fixed Assets 16,00,000
(b) Non-Current Investments:
(i) 10% Investments 2,00,000
 (ii) 10% Non-trade Investments 1,20,000
2. Current Assets 14,00,000
Total 33,20,000

Additional Information: Net Profit before Tax for the year 2018-19 is Rs 9,72,000.
Answer: Return on Investment = (Net Profit before Interest, Tax and Dividend/ Capital Employed ×
100)
Interest on borrowings = ₹ (16,00,000 × 15/100) = ₹ 2,40,000
Net Profit before Tax = ₹ 9,72,000
Net Profit before Interest and Tax = ₹ (9,72,000 + 2,40,000) = ₹ 12,12,000
Net Profit before Interest and Tax (excluding interest on non-trade investments) = ₹ (12,12,000 –
12,000) = ₹ 12,00,000
Capital Employed = Shareholder’s Funds + Non-Current Liabilities – Non-Trade Investment
= ₹ (5,00,000 + 4,20,000 + 16,00,000 – 1,20,000) = ₹ 24,00,000
Return on Investment = (12,00,000/24,00,000 × 100) = 50%
 CBSE Sample Paper - - -
a) A company had a liquid ratio of 1.5 and current ratio of 2 and inventory turnover
ratio 6 times. ~
It had total current assets of ₹8,00,000. Find out annual sales if goods are sold at 25%
- °
⑦

profit on cost.

-b) Calculate debt to capital employed ratio from the following information.

CShareholder funds ₹15,00,000 -

8% Debenture ₹7,50,000 -
Current liabilities ₹2,50,000
Non -current Assets ₹17,50,000
Current Assets ₹7,50,000

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