Accounting Ratios
Class 12 · Accountancy
4 ideas in Class 12 Accountancy, explained in plain words, with games and quizzes to practise.
Liquidity Ratios
Part of: Safety of lenders
Liquidity ratios test if assets turning to cash within a year cover dues falling within a year. The current ratio divides current assets by current liabilities, while the liquid ratio first removes inventory and prepaid. For example, current assets of 300000 against dues of 100000 give 3 to 1, and liquid assets of 200000 give 2 to 1.
Why it matters. Lenders and suppliers trust only firms that can pay soon. A weak ratio warns of bounced payments, while an oddly high one may hide idle stock.
Formulas
- Current ratio = Current assets / Current liabilities
- Liquid ratio = Liquid assets / Current liabilities
- Liquid assets = Current assets - Inventory - Prepaid
Key words
- Current ratio
- : Cover for short dues.
- Liquid ratio
- : Quick cover without stock.
- Liquid assets
- : Fast cash-like assets.
- Idle stock
- : Unsold pile locking cash.
Try it in two minutes
- Stack 30 beads as current assets and 10 as dues. Ask: how many times covered?
- Remove 9 beads of stock and 1 prepaid. Ask: what stays liquid?
- Divide 20 liquid beads by 10 dues. Ask: is 2 times safe?
Try at home. Current assets 200000 with stock 50000, dues 100000. Find the liquid ratio.
Solvency Ratios
Part of: Safety of lenders
Solvency ratios test if long-term lenders stay safe. Debt means long-term loans plus debentures, and the debt-equity ratio weighs that against owners' funds. Proprietary ratio weighs owners' funds against total assets, and interest coverage counts how many times profit pays interest. For example, debt of 400000 on equity of 500000 is 0.8 to 1, and profit of 200000 over interest of 50000 covers 4 times.
Why it matters. Heavy debt magnifies both gains and ruin. These ratios warn before fixed interest eats the firm alive.
Formulas
- Debt = Long-term loans + Debentures
- Debt / Equity = Long-term debt / Equity
- Interest cover = Profit before interest and tax / Interest
Key words
- Debt
- : Long loans plus debentures.
- Equity
- : Owners' funds in firm.
- Interest cover
- : Times interest is earned.
- Proprietary ratio
- : Owners' share of assets.
Try it in two minutes
- Stack 4 beads of debt and 5 of equity. Ask: who funds more?
- Count profit 200000 against interest 50000. Ask: how many times safe?
- Weigh owners' 500000 against assets 800000. Ask: whose share is that?
Try at home. Debt 300000, equity 600000. Find the debt-equity ratio.
Activity Ratios
Part of: Working assets and keeping profit
Activity ratios count how many times assets turn into sales each year. Inventory turnover divides cost of revenue by average stock, receivables turnover divides credit sales by average debtors, and working capital turnover divides revenue by working capital. Days of collection come from 365 over receivables turnover. For example, cost of 480000 on average stock of 120000 turns 4 times.
Why it matters. Fast turnover frees cash and cuts storage and bad debts. Slow movement locks money on shelves and in debtors' pockets.
Formulas
- Inventory turnover = Cost of revenue / Average inventory
- Receivables turnover = Credit revenue / Average receivables
- Collection period = 365 / Receivables turnover
Key words
- Turnover
- : Times an asset becomes sales.
- Average stock
- : Mean of opening and closing stock.
- Collection period
- : Days credit stays unpaid.
- Working capital
- : Current assets less current dues.
Try it in two minutes
- Move 48 beads of cost through 12 beads of stock. Ask: how many rounds?
- Collect 75 beads of credit sales from 15 beads of debtors.
- Turn 5 rounds into days: 365 over 5 is 73. Ask: how long is credit?
Try at home. Cost 600000, average stock 150000. Find inventory turnover.
Profitability Ratios
Part of: Working assets and keeping profit
Profitability ratios weigh profit against sales or investment. Gross profit ratio takes gross profit over revenue, operating ratio takes cost plus operating expenses over revenue, net profit ratio takes profit after tax over revenue, and return on investment takes profit before interest and tax over capital employed. For example, gross profit of 300000 on revenue of 1000000 is 30 percent.
Why it matters. Sales without margin are vanity. These ratios show where profit leaks: production, operations, or financing.
Formulas
- Gross profit ratio = Gross profit x 100 / Revenue
- Net profit ratio = Profit after tax x 100 / Revenue
- Return on investment = Profit before interest and tax x 100 / Capital employed
Key words
- Gross profit ratio
- : Production margin on sales.
- Operating ratio
- : Cost plus running cost share.
- Net profit ratio
- : Final margin on sales.
- Capital employed
- : Long funds put to work.
Try it in two minutes
- Stack 100 beads of revenue and mark 30 as gross profit. Ask: what share is that?
- Add 70 of cost and 10 of running costs. Ask: what share is eaten?
- Take 25 of operating profit on 100 of capital. Ask: what is the return?
Try at home. Revenue 500000, gross profit 200000. Find the gross profit ratio.
What your child will practise
- Activity Ratios: Ocean Quick Fire (Quick Fire)
- Liquidity Ratios: Jungle Puzzle (Clue Puzzle)
- Liquidity Ratios: Jungle Quick Fire (Quick Fire)
- Profitability Ratios: Candy Quick Fire (Quick Fire)
- Solvency Ratios: Desert Puzzle (Clue Puzzle)
- Quiz: Activity Ratios (8 questions)
- Quiz: Liquidity Ratios (8 questions)
- Quiz: Profitability Ratios (8 questions)
- Quiz: Solvency Ratios (8 questions)