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Analysis of financial reports requires skill of mathematics, accountancy as well as statistical tools.

But there are some basic ratios which can be helpful for a layman also to analyze the Balance
Sheet, Profit & Loss A/C of a company or a bank.
Various financial datas can be made available from Balance sheet, P/L A/C, Annual Reports, Audit
Report, Income Tax Return, Other Tax returns, Bank account statements, Bank Loan statements
Some important concepts to be understood are :
(1) Balance sheet : Balance sheet is a financial position of a particular date, which does not reflect
about the year on activity on daily basis but shows accumulated yearly results of which comparison
gives the trend and track of financial position of a company. While Profit & Loss A/C is made for the
year and all the revenue expenditure and income related transactions are summarized as a
headwise total. The difference of expenditure and income is transferred to Balance sheet.
From Balance sheet we can get the idea about capital base, reserves and provisions, secured and
unsecured loans taken and current liabilities. The asset side shows the deployment of funds in fixed
assets, investment, loans given, current liabilities. If the owned capital is more than outside liabilities
the company can be said stronger. The current assets should be created from current liabilities. The
fixed assets should be created from capital & reserves or long term loans. The working capital loans
cannot be used to purchase fixed assets.
(2) Working Fund : It is also important to calculate working fund (working capital or working assets)
rather than to use total assets i.e. sum of asset side is generally understood as total assets, but it is
including contra items which does not reflect real picture. So, while considering total assets we
should not consider revaluation reserves, accumulated loss and contra items (shown at both sides of
balance sheet).
(3) Earning Assets : The earning assets also an important concept. In earning assets we should
take only those assets on which we can earn interest. i.e. on current account we are not earning but
fixed deposits, loan given, other investments on which we get earning are earning assets.
(4) Average Balance : Another most important concept is to take average balance instead of last
day balance in ratio analysis. Because the profit or interest are the result of the whole year
transactions which should be compared with the whole period average and not with last day position.
Let us take an example to understand this : If interest earned on investment is compared with last
day balance of investment and if during near term past some investment is made , the ratio will be
lower and if some part of investment is redempted, the ratio will be higher than the actual value. But
if we take average of investment than it gives the real picture. So, average of fortnightly or monthly
balance is to be considered in ratio analysis.
(5) Off Balance Sheet Items : Off balance sheet items are also important as it may create adverse
effect on profitability or soundness of the company. e.g. wage settlement negotiations, Income Tax
notices to pay Income Tax, Other Liabilities which are not considered, Heavy bank guarantee issued
by the bank etc.
The concepts of various ratios which can be helpful to understand the financial position of a
company are as under :
[1] Current Ratio = Current assets / Current liabilities
The standard ratio is 2:1 which means current assets should be double than current liabilities.
Current assets includes all current type assets, cash, bank balances, sundry debtors, receivables,
stock etc., while current liabilities includes liabilities to be paid in short term, sundry creditors, short
term loans, taxes payable, dividend payable etc. This ratio shows the working capital capability and
capacity to pay the short term liabilities.
[2] Debtors Turnover Ratio =Total Book Debts /Sale Made on Credit * 365
This ratio gives average days required for receiving the book debts on account of credit sales. If the
ratio is lower than it shows good position. It gives clarity about how many days average credit is
given, efficiency of recovery of dues and control on credit sale.
[3] Debt Service Coverage Ratio (DSCR) = (Net Profit + Depreciation + Interest on long term loans)
/ Total amount of interest & principal of long term loan payable or paid during the year.
It is the most important ratio for term loan repayment capacity. The standard ratio is 1 but DSCR of 2
is preferable because if DSCR is 2 it shows that even if cash falls at 50% then also the company is
capable to repay term loans liabilities.
Acid test ratio, Fixed Assets to Total assets, Fixed assets to Own Funds are also important ratios to
understand use of capital.
[4] Return on average total assets = Net profit / Average working fund *100
It gives the profitability & soundness of a company. In banking industry it stands nearly 1 to 2 %.
[5] Net Margin = Operating profit / Total Income * 100
[6] Net Interest Margin = (Interest Earned-Interest Paid) / Average working fund *100
[7] Staff Cost to Total Expenses = Total staff related expenses / Total Expenses *100
[8] Staff Cost to Total Income = Total staff related expenses / Total Income * 100
[9] Total Income to Working Capital = Total Income / Average Working fund * 100
[10] Total Income to Earning Assets = Total Income / Average earning assets * 100
[11] Risk provisions to Total income = Total of Risk provisions made during year / Total Income *
In banking industry another relevant ratios are :
[12] Cost of deposits = Total interest paid on deposits / Average Deposits * 100
[13] Yield on advances = Total Interest Earned / Average Loans & Advances * 100
[14] Return on Investment = Total Interest or dividend Earned on Investments / Average
Investments * 100
[15] Return on Funds Deployed = (Total Interest or dividend Earned on Investments + Interest
Earned on Loans) / (Average Investments + Average Loans ) * 100
[16] Cost of Funds = (Interest paid on Deposits + Interest paid on Borrowings) / (Average Deposits
+ Average Borrowings) *100
[17] Gross NPA % = Total NPA Loans / Total Loans *100
Here NPA means non performing assets. E.g. in term loans if interest and/or installments are not
paid within 90 days from it becomes overdue, it turns into non performing assets.
[18] Net NPA % = (Total NPA Loans Provisions made for NPA Loans) / (Total Advances
Provisions made for NPA Loans) * 100
In most of the banks Net NPA is zero because they have made sufficient provisions against their
NPA Loans (Bad Debts). But only zero NPA % is not sufficient as it doesnt say that the entity has no
bad debts. So, Gross NPA % should be lower. As per recent guidelines from RBI Net NPA (%)
should be less than 5% to pay dividend and Gross NPA should be less than 10% to avoid
Supervisory Action from RBI.
[19] PROVISIONING COVERAGE RATIO = Total Provisions made for NPA Assets / Total NPA
Assets * 100
It is simple to understand that this ratio should be atleast 100%. If this is less than 100% it shows
that the company has not fully provided their NPA Assets.
[20] Overdue % = Total Overdue Loans / Total Loans * 100
It reflects the repayments positions. If overdue is higher it shows that interests and/or installments
are not paid by customers on due date which creates negative effect on liquidity. Further if overdue
stands for long time it turns into NPA.
[21] CRAR : Capital Funds to Risk Assets Ratio.
It is calculated by the banks and published in Annual Reports. At present it should be atleast 9%. If it
is less than 9% it shows adverse situation. As per latest guidelines by RBI if it is less than 6% it
attracts supervisory action from RBI.
[22] Credit Deposits Ratio = Total Loans given / Total Deposits * 100
Mostly called CD ratio should be less than 70% as per latest RBI guidelines. It means that maximum
70% of deposits received from customers can be used to give Loans to the customers
[23] CASA Deposits Ratio = (Total Current Deposits + Total Savings Deposits) / Total Deposits
This represents the Lower cost deposits as no interest is paid on current deposits and at lower rate
on savings accounts. So, higher the ratio higher the profitability. But if CASA deposits are more in
total deposits it is risky also as there is no restriction on withdrawal of these deposits and it can
create adverse situations on liquidity position.
[24] Business Productivity Per Employee = (Total deposits + Total advances) / No of Employee
In the same way Deposit per employee, Advances per employee are also calculated.
[25] Profit per employee : Net profit / No of Employees
In the same way Gross Profit per employee also calculated. This ratio is important to measure the
strength of Human Assets of the bank. It can be linked to give bonus or profit share to employees.
Interest paid on Deposits to total Income , Interest paid on deposits to total expenses , Interest
Earned to Total Income , Interest Earned to Total expenses, other overheads to total expenses,
Interest paid on Borrowings to total Income, are also important ratios.