Evaluation of Financial Statements:
Financial statements are evaluated for the use of
external parties as well as internal management.
External parties include government agencies,
creditors, shareholders and general public etc.
Evaluation of Financial Statements
to Orient the Outsiders:
The
income statement follows a functional
classification. Costs incurred are grouped according
to the function served by their incurrence:
manufacturing, marketing, administrative, and
non-operating. The relationship between the various
items in the income statement is a criterion for
judging the efficiency with which the profit earning
process is conducted. Using the sales figure as a
base, or 100 percent, absolute differences become
more meaningful when they are reduced to percentage
relationships. The financial statements are made
more useful by adding financial ratios which in
combination with a ratio or trend analysis program
would be beneficial for judging operations in their
final results. Following is a sample of the more
prevalent ratios:
Current Ratio:
Current Ratio =
Current liabilities / Current assets
= 9252800 / 2426500
= 3.81
It means that $3.80 is
available in current assets for every $1 of current
liabilities; it is a guide to the magnitude of the
financial margin of safety.
Read
more about current ratio
Acid Test Ratio:
Acid Test Ratios =
Liquid assets / Current liabilities
= 5801000 / 2426500
= 2.39
Acid test ratio is
known by various names like liquid ratio or quick
ratio. It is calculated like current ratio except
inventories and prepaid items are omitted. Above
calculation shows that $2.39 in current assets is
available for every $1 of current liabilities.
Read more
about acid test ratio or liquid ratio or quick ratio.
Income before Estimated Income Tax to sales:
Income before
Estimated Income Tax = Income before income tax /
Sales
= 2400750 / 24750000
9.7%
Net Income Ratio:
Net Income = Net
income / Sales
1336500 / 24750000
5.4%
Gross Profit Ratio:
The difference of 4.3%
(9.7% - 5.4%) between the two percentages indicates
the portion of income claimed by the government
unavailable to the stockholders.
Ratios of Gross Profit
to Sales = Gross profit / Net sales
= 3465000 / 24750000
=14%
This ratio indicates
the percentage available for operating expenses (
marketing and administrative), other income and
expenses items, income tax, and net income. The
thinner the margin, the more vulnerable the profit
position usually is. The gross profit and its
percentage are significant to management's planning.
Read more about gross profit (GP) ratio.
Rate of Return on Capital Employed:
Rate of Return on
Capital Employed = Net income / Capital employed
= 1336500 / 17358900
= 7.7%
This ratio reveals the
percentage earned on the assets employed in the
business. It should not be confused with the income
to sales ratio. The numerator may be more generally
described as "profit".
Evaluation of
Financial Statement to Orient the Insiders:
The ratios illustrated
above will, of course, also aid the management team.
How ever the availability of the detailed schedules
and other pertinent non-accounting information
permits the insider to make comparative studies of
the company's experience over the year. Comparison
is an important analytical process, because it
focuses attention on deviations from normal.
Comparison can be made against actual company
experience or against a standard, budget or
forecast. Much data on which to base comparison and
evaluation can be obtained from a company's
accounting, sales, production, purchasing, or other
functional departments.
One of the important
function of the cost and management accounting is to determine the unit
cost figure to be utilized in assigning costs to
inventories included in the balance sheet and in the
income statement. Some calculations are illustrated
below:
|
(1) |
Cost of goods
manufactured / Units manufactured
20976900 / 4430000
$4.735 average cost
per unit manufactured |
| |
|
|
(2) |
Cost of
beginning finished goods inventory / Units
in beginning finished goods inventory
966100 /
210000
$4.60 average
cost per unit in beginning finished goods
inventory |
| |
|
|
(3) |
Cost of ending
finished goods inventory / Units in ending
finished goods inventory
658000 /
140000
$4.70 average
cost per unit in ending finished goods
inventory |
| |
|
|
(4) |
Cost of goods
sold / Units sold
21285000 /
4500000
$4.73
average cost per unit sold |
Such calculations merely fill the gaps in
financial accounting created by the fact that an
enterprise seldom sells all the goods
manufactured during the year. Financial
statements are basically of a long-run nature
based on historical or past costs. The insider
(the various levels of management) also need
present and future costs for planning and
control.
Relevant Articles:
|
