Analysis and interpretation of financial statement with the help of ‘ratio’ is termed as ‘ratio analysis’. Ratio analysis involves the process of computing, determining and presenting the relationship of items of financial statement.
Ratio analysis was pioneered by Alexander wall who presented a system of ratio analysis in the year1909. Alexander’s contention was that interpretation of financial statement can be made establishing quantitative relationships between various items of financial statement.
MEANING OF RATIO
A ratio is a mathematical relationship between two items expressed in a quantitative form.Ratios can be defined as “relationships expressed in quantitative terms, between figures which have caused and effect relationships or which are connected with each other in some manner or the other”.
An accounting ratio can be defined as quantitative relationships between two or more items of the financial statement connected with other. Arithmetically ratio is a comparison of the numerator with the denominator.
The essence of ratio is putting together of two figures to study their relationships. The study is in the form of analysis, interpretation and expression of all the ramification of the relationship.Ratio analysis is an age old technique of financial analysis. The information provided by the financial statement in absolute form is historical and static, conveying very little meaning to the users. Acco8unting ratios designed to show how one number is related to another number. Accounting ratios measure and indicate efficiency of an enterprise in all aspects.
STEPS IN RATIO ANALYSIS
•Selection of relevant information: the first step in ratio is to select relevant information from financial statements and calculation appropriate ratios required for decision under consideration.
•Comparison of calculated ratios: In order to assess the relative meaning the ratios calculated are compared with the post ratio and industry ratios.
•Interpretation and reporting: The third step in ratio analysis is to interpretation the significance of various ratios, draw inferences and to write a report.
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