Importance of Financial Ratio

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‫بسم ال الرحمن الرحيم‬
Islamic University – Gaza Faculty of Commerce Department of Accounting ‫الجايمعة اللسليمية – غزة‬ ‫كلية التجارة‬ ‫قسم المحالسبة‬

Importance of financial ratios
(Applied Study on PALTEL Company)

prepared By :

Ali Own Moheisen 120092647 Khaled Kamel Dawoud 120092173
Supervisor's name :
Dr. Salah Shubair .

August, 2012


‫بسم الله الرحمن‬ ‫الرحيم‬

‫ن"‬ ‫ذني َ‬ ‫ل َنيِ‬ ‫واِذّ‬ ‫م َ‬ ‫ك و ْ‬ ‫يمكن مُ‬ ‫كناوا َنيِ‬ ‫يممُ‬ ‫ن آ َ‬ ‫ذني َ‬ ‫ل َنيِ‬ ‫هلل اِذّ‬ ‫ع ا مُ‬ ‫ف َنيِ‬ ‫ر َ‬ ‫ني و ْ‬ ‫ َ‬ ‫جا "ٍ‬ ‫ت‬ ‫ر َ‬ ‫د َ‬ ‫م َ‬ ‫ل َ‬ ‫ع و ْ‬ ‫ل َنيِ‬ ‫تاوا ا و ْ‬ ‫أو مُ‬ ‫"مُ‬

‫صدق اهلل العظيم‬
‫} لساورة المجادلة‪{11،‬‬


For Our Palestine… For Our University… For Our Teachers… For Our Family… We Present This Research…


- First of all, we thank Allah for helping us to complete our Research. - Our ability to accomplish this research is due to the good effort provided by our great university IUG. - We thank very much our parents, who were granted every thing in their life for us, and also we thank them for push us to success. - We would like to thank Mr. Salah Shubair for his advice and continuous supports. - For all our teachers at IUG and for the IUG library staff.

- We would like to express our personal gratitude to Jawwal Company. - Also we would like to thanks our friends for their help. - Finally, thanks for every one who contributes in any way to support us.

List of content:
Averse of Quran…………………………………………………………2 Dedication…………………………………………………….………3 Acknowledgment……………………………………………….……4\ List of Content……………………………………….………………….5 List of Tables...………. …………………………………….………...5 Table of Figures…………………………………..……………5

Introduction ……………………………………………9 Statement of the problem…………………………………11 Objectives ……………………………………………………11 Main objective …………………………………………………11 Specific objectives ………………………………………………12 Significance of the project (work) …………………………………..14 Scope and limitations of the project (work) ………………………..15 Methodology………………………………………………………15 Current state of the art………………………………………….17 Related work…………………………………………………18 5

Introduction…………………………………………………….21 Managerial (Business) Finance……………………………………21 Finance in the organizational structure of the firm……………………22 Financial Manager's Responsibilities……………………………………23 Methods Of Analyzing Financial Statements……………………….…25 Ways to Analyze Financial Statements……………………………….26 Component of The Financial Statement…………….……………27 Users of Financial statement…………………………………27

CHAPTER 3: financial ratios
Introduction ……………………………………………….…31 What Does Financial Ratio Mean…………………………….31 Standards Of Comparison………………………………….…31 Financial Ratio Classification…………………………………32 Efficiency Ratios…………………………………………..…33 Investment Ratios………………………………………….…38 profitability Ratios……………………………………………40 Short Summary…………………………………………….…43 How to Use Financial Ratios to Make Managerial Decisions? ……44 Advantages and Uses of Ratio Analysis……………………………45 Limitations of Ratio Analysis………………………………….……47 Summary……………………………………………………..…….48

Introduction…………………………………………………50 Key Steps in Financial Ratio Analysis…………………..…50 Palestinian Telecommunications Company…………………51 Corporate Information…………………………………….51 PalTel Group……………………………………………..52 The Mission………………………………………………52 The Promise………………………………………………52 The Vision…………………………………………….…52 The Methodology……………………………………..…52 What Can PalTel Group Do For You? ……………………..52 Financial Ratios Analysis……………………………………53 6

Profitability Ratios………………………………………..…53 Efficiency Ratios……………………………………………55 Liquidity Ratios………………………………………………58 Investment Ratios……………………………………………59

CHAPTER 5: conclusion and recommendation
CONCLUSION……………………………………………64 RECCOMMENDATIONS…………………………………65

Chapter -17

Research prposal

1.1 Introduction: The basic financial statements containing (income statement, balance sheet, the statement of stockholders` equity and the statement of cash flow) of quantitative and qualitative information can be used in the analysis of financial and economic decision-making appropriate. Income Statement - provide a financial summary of the firm’s operating results during a specified time period. Balance Sheet –present a summary of the assets owned by the firm, the liabilities owed by the firm, and the net financial position of the owners as of a given point in time. Statement of Retained Earnings - This statement reconciles the net income earned during the year, and any cash dividends paid, with the change in retained earnings during the year. Statement of Cash Flows - This statement provides a summary of the cash inflows and the cash outflows experienced by the firm during the


period of concern.(1) (Gitman ، 2009 ، P44-51). The financial statements contain a great deal of accounting data for the previous financial periods and the current financial period, so it is not enough to prepare the inventory, but must be analyzed using the methods and tools appropriate to convert such data into useful information on company performance in the past as well as to predict its future, and then interpret the results of the analysis to serve all the parties used for accounting data. The analysis using financial ratios are the oldest tools of financial analysis and most important, financial ratios were defined by many authors, such as: "The financial ratios are studying the relationship between variables, one representing the numerator and the other represents a primarily" (Gitman, 2009 , P53); or that the financial ratios "is a relationship between two or more items of the financial statements are expressed as a percentage or number of times." It features financial analysis using ratios, ease of calculating the ratio of Finance and the possibility of their use in the comparison from year to year or between the facility and the other, and the disclosure of information that do not directly Disclose the Final Financial Statements (Gitman ، 2009 ، P54). Financial ratios can be convenience into five basic categories: liquidity, activity, debt, profitability, and market ratio (Gitman ، 2009 ، P57-69). 1. Liquidity ratios: The liquidity of a firm is measured by its ability to satisfy its short-term obligations as they come due. 2. Activity ratios:


Measure the speed with which various accounts are converted into sales or cash –inflows or outflows. 3. debt ratios: The debt position of a firm indicates the amount of other people's money being used to generate profit. Debt ratios measure both the degree of indebtedness and the ability to service debt. 4. Profitability ratios: Measure the firm's ability to generate profits from money invested . 5. Market ratios: Relate a firm's market value, as measured by its current share price, to certain accounting values.

1.2 The Problems Of The Study :
Our research's problem will answer these questions : 1. Why do financial analysts engage in the analysis of a firm's statements? 2. What are common size financial statements and how are they constructed? 3. What is the financial ratio intended to measure? 4. How the financial statement influence on making decision?

1.3 Objectives
1.3.1 Main Objective To study the financial ratios, and knowing how it might influence on the decision making, profitability and liquidity of the corporation. 1.3.2 Specific Objectives

The specific objectives of the project are: 1. To identify the meaning of each ratio. 2. To determine how each ratio can be computed.
3. To interpret the financial ratios and their significance. 4. To identify what might a high or low value be telling us.

5. To evaluate the firm's financial performance in light of its competitor's performance.

1.4 Significance Of The Project
1. Holding Of Share Shareholders are the owners of the company. Time and again, they may have to take decisions whether they have to continue with the holdings of the company's share or sell them out. The financial statement analysis is important as it provides meaningful information to the shareholders in taking such decisions. 2. Decisions And Plan The management of the company is responsible for taking decisions and formulating plans and policies for the future. They, therefore, always need to evaluate its performance and effectiveness of their action to realize the company's goal in the past. For that purpose, financial statement analysis is important to the company's


management. 3. Extension Of Credit The creditors are the providers of loan capital to the company. Therefore they may have to take decisions as to whether they have to extend their loans to the company and demand for higher interest rates. The financial statement analysis provides important information to them for their purpose ( 4.Investment Decision The prospective investors are those who have surplus capital to invest in some profitable opportunities. Therefore, they often have to decide whether to invest their capital in the company's share. The financial statement analysis is also important to them because they can obtain useful information for their investment decision making purpose. Other significant of our project :  Company can analyze its own performance over the period of time through financial statement analysis.  Financial ratios are an important tool of economic decisionmaking for all businesses.  Investors get enough idea to decide about investments of their funds in specific company.  Regulatory authorities like International Accounting Standard

Board can ensure whether the company is following accounting standard or not.  Financial statements can help the government agencies to analyze the taxation due to the company.  Ratios are used in the financial aspects of businesses. They are used for comparison purposes in finding out how their company is doing compared to prior years and compared to other businesses in the same industry.

1.5 Limitations of the Project (Work)
The limitations of our project could be presented in the following points: • Making the research was very hard, and there is no enough time to make a good research. • Analyzing the financial ratios requires analytical skills . • As students we still not working in any business we didn’t get this skills yet . • There are various types of financial ratios and also various classifications, depending on an investor's perspective or areas that corporate leadership wants to review. • Not all of the Palestinian corporations declare their financial statements for the public.

Taking the Palestinian Telecommunications Company (PALTEL) as a case study was very challengeable because it is a service company and its financial statements differ from the financial statements for the merchandising or manufacturing companies.

1.6 Methodology
In our research we used the analytical methodology will follow a systematic way in which we can put the key titles for each chapter and then beginning talking about each title separately depending on the information that we can get it from the books in the university’s libraries and by searching on the internet. we realize that our research’s topic needs a Palestinian corporation to be a case study for this research, so we will apply this research on the Palestinian Telecommunications Company (PALTEL) ,using its financial statements with its declarations and notes.

1.6.1 Overview of the Current State of the Art
Analysis of financial statements is the process of reviewing and evaluating a company’s financial statements (such as the balance sheet or profit and loss statement), thereby gaining an understanding of the financial health of the company and enabling more effective decision

making. Financial statements record financial data; however, this information must be evaluated through financial statement analysis to become more useful to investors, shareholders, managers and other interested parties. So our topic will contain five chapters which are as follows: The first Chapter: In which we will take an introduction about the whole research and introduce the significance of my research topic and its limitations. The second chapter : This chapter will be as introductory chapter for almost all the definitions that we will need it in my research, beginning talking in introduction about the financial statement analysis, then talking about the importance of analyzing the financial statements. The third chapter: In this chapter we will talk particularly about one method of many methods of analyzing the financial statements, taking the clearest classification for the financial ratios. we shall see financial (or accounting) ratios can help in assessing the financial health of a business. we shall also discuss the problems that are encountered when applying this technique.

The fourth chapter:

In this chapter we will take Palestinian Telecommunications Company (PALTEL) as a case study, and then introduce its financial statements by analyzing them according to the financial ratios. we shall also interpret each financial ratio by comparing this ratio among two years which are 2009 and 2010.

The fifth chapter: In this chapter we include the conclusion from our research, also the results
and recommendations .

Sources to collect information: 1. Primary sources: • Previous researches. • Related websites. 2. Secondary sources: • Related books. • Magazines and periodicals. Our main reference is ( .


Time table and budget: The research has a time limit; it should be done in nine weeks. The following chart describes the way we will spent the research time. Table 1.1 time table July August
2 3 4 5 6


Week Number Generate Topic Read books and related researches Writing research proposal Introdocury definitions Financial ratios Applied study Conclusion & recommendations Discussion the Search


The estimated research budget could be 200 NIS. This budget will be spent on copying, typing and other expenses related to this research.

-Chapter -2


Introdocury Definition

Introduction 2.1
In simple terms, finance is concerned with decisions about money, or more appropriately, cash flows. Finance decisions deal with how money is raised and used by businesses, government, and individuals; To make . rational financial decisions The study of the finance consists of four interrelated areas: (1)financial markets institutions, (2)investments, (3)financial services, (4)managerial .finance :Managerial (Business) Finance Managerial finance deals with decisions that all firms make concerning their cash flows. As a consequence, managerial finance is important in all types of businesses, whether they are public or private, deal with financial services, or manufacture products. The types of duties encountered in managerial finance range from making decisions about plant expansions to choosing what types of securities to issue to finance such as expansions. Managerial finance is very important area, because all areas of the finance are interrelated, an individual who works in any once area should have a good understanding of the other areas as well. For example, a banker lending to a business must have a good understanding managerial .finance to judge how well the borrowing company is operated

Finance in the organizational structure of the firm 2.2
Finance is intimately woven into any aspect of the business that involves the payment or receipt of money in the future. For this reason it is important that everyone in a business have a good working knowledge of the basic principle of finance. However, within a large business organization, the responsibility for managing the firm financial affairs falls to the firm's chief financial officer (CFO).

Figure 2.1 shows how the finance function fits into firm's organizational .chart In the typical large corporation, the CFO serves under the corporation's Chief Executive Officer (CEO) and is responsible for overseeing the firm's finance-related activities. Typically, both a treasure and controller serve under the CFO, although in a small firm the same person may fulfill both roles. The treasure generally handles the firm's financing activities. These include managing its cash and credit, exercising control over the firm's major spending decision, raising money, developing financial plan, and managing any foreign currency the firm receives. The firm's controller is responsible for managing the firm's accounting duties, which include producing financial statement, paying taxes, and gathering and monitoring data that the firm's executives need to oversee .its financial well-being Board of Directors
Chief Executive Officer Vice PresidentMarketing Vice President-Finance or Chief Financial Officer(CFO) Duties Oversee financial planning Corporate strategic planning Control corporate cash flow Vice PresidentProduction and Operation Controller Duties: Taxes Financial statement Cost accounting Data processing

Treasure Duties: Cash management Credit management Capital expenditure Raising capital Financial planning

Financial Manager's Responsibilities 2.3
The financial manager's task is to make decisions concerning the acquisition and uses of funds for the greatest benefit of the firm. Here are some specific activities that are involved: (( 1. Forecasting and planning. The financial manager must interest with other executives as they look ahead and lay the plans that will shape the firm's future positions.

2. Major investment and financing decisions. A successful firm generally has rapid growth in sales, which requires investments in plant, equipment, and inventory. The financial manager must help determine the optimal sales growth rate, and he or she must help decide on the specific assets to acquire and the best way to finance those assets. 3. Coordinating and controlling. The financial manager must interact with other executrices to ensure that the firm is operated as efficiently as possible. All business decisions have financial implications, and all managers, financial and other wise need to take it into account. 4. Dealing with the financial markets. The financial manager must deal with the money and capital markets. Each firm affects and is affected by the general financial markets where funds are raised, where the firm's securities are traded, and where its investors are either rewarded or penalized. From what we have already said, we can say that all the previous tasks required the financial manager to analyze the financial statements for the ?company which he works in, so what is financial analysis Financial statement analysis is defined as the process of identifying financial strengths and weaknesses of the firm by properly establishing relationship between the items of the statement of financial position and .the income statement

Methods Of Analyzing Financial Statements 2.4
There are various methods or techniques that are used in analyzing financial statements, such as comparative statements, schedule of changes in working capital, common size percentages, funds analysis, trend .(analysis, and ratios analysis (www.accountingformanagment Horizontal or Trend Analysis .1 Methods of financial statement analysis generally involve comparing certain information. The horizontal analysis compares specific items over a number of accounting periods. For example, accounts payable may be compared over a period of months within a fiscal year, or revenue may be compared over a period of several years. These comparisons are performed in one of two different ways. • Absolute Dollars


One method of performing a horizontal financial statement analysis compares the absolute dollar amounts of certain items over a period of time. For example, this method would compare the actual dollar amount of operating expenses over a period of several accounting periods. This method is valuable when trying to determine whether a company is conservative or excessive in spending on certain items. This method also aids in determining the effects of outside influences on the company, such as increasing gas prices or a reduction in the cost of materials. • Percentage The other method of performing horizontal financial statement analysis compares the percentage difference in certain items over a period of time. The dollar amount of the change is converted to a percentage change. For example, a change in operating expenses from $1,000 in period one to $1,050 in period two would be reported as a 5% increase. This method is particularly useful when comparing small companies to large companies. 2. Vertical Analysis The vertical analysis compares each separate figure to one specific figure in the financial statement. The comparison is reported as a percentage. This method compares several items to one certain item in the same accounting period. Users often expand upon vertical analysis by comparing the analyses of several periods to one another. This can reveal trends that may be helpful in decision making. An explanation of Vertical analysis of the income statement and vertical analysis of the balance sheet follows. • Income Statement Performing vertical analysis of the income statement involves comparing each income statement item to sales. Each item is then reported as a percentage of sales. For example, if sales equals

$10,000 and operating expenses equals $1,000, then operating expenses would be reported as 10% of sales. • Balance Sheet Performing vertical analysis of the balance sheet involves comparing each balance sheet item to total assets. Each item is then reported as a percentage of total assets. For example, if cash equals $5,000 and total assets equals $25,000, then cash would be reported as 20% of total assets. 3. Ratio Analysis Ratio analysis is a dynamic way of analyzing a financial statement. It involves taking two or more numbers and comparing them to calculate a result that accurately displays a business's financial strengths and weaknesses. There are many categories of ratios, including profitability ratios, liquidity ratios, debt ratio and asset ratios. A business can compare ratios to industry and competitive benchmarks in order to gauge its performance and .make decisions on how to operate in the future

Ways to Analyze Financial Statements 2.5
Users may choose different methods to analyze financial statements :depending on the types of business insight they desire Common-size Statements .1 A common-size statement may be either the balance sheet or income statement. Financial statements are restated in "comment-size" terms by converting their numbers to percentages. This standardizes the financial results to allow comparison between companies in the same industry, regardless of their size. For example, the common-size income statement reports every line item as a percentage of sales. The common-size income statement allows companies to compare their percentage of SG&A expenses or cost of goods sold against industry averages or other similar companies. A common-size balance sheet reports every item as a percentage of total assets. For example, if total assets of the company are $1 million, and cash is $80,000, then cash is 8 percent of total assets.

Comparative Statements .2 Comparative financial statements show different periods compared to each other. For example, an income statement might show three years worth of profit and loss data, and to use this to demonstrate the growth from one year to the next for certain line items, such as sales or specific types of expenses. Companies may use comparative financial statements internally, to compare one month to the next and look for trends in sales or expenses throughout the year. This information also helps formulate the company's monthly and yearly budgets and forecasts. Ratio Analysis .3 Financial ratios on their own are simply one number divided by another. Alone, one ratio does not mean much, but several used together can provide users with a substantial amount of information. Financial ratios are a relatively quick method of assessing a company's liquidity, how effectively it manages its resources, how efficiently it turns inventory and the company's level of reliance on debt-to-finance operations. Industry Comparison .4 Financial statements analyzed against industry averages or other specific companies in the same industry tell how competitive a business is among its peers. Return Merchandise Authorization 'RMA' is a nonprofit association that publishes annual financial statement studies, providing comparative financial data from the financial statements of small to medium size businesses in various industries. This information allows businesses to benchmark themselves against the industry, using metrics, such as sales growth, cost of goods sold as a percent of sales . Financial Statement Forecasts .5 Forecasts are sometimes assembled based on the results of financial statement analysis, but once the forecast period has passed, the projected financial information can be compared to actual data to measure the company's performance against its objectives, and spot any potential trends that management was not previously aware of.

2.6 Component of The Financial Statement

Financial statements consist of three different statements: income statement, balance sheet and cash flow statement. All three are necessary to provide an accurate overview of the financial stability and viability of a business. At the least, firms prepare annual financial statements, and most businesses compile them monthly or quarterly as well. 1. The Income Statement An income statement, also called a profit and loss statement, measure the amount of profits generated by a firm over a given time of period (usually a year or quarter). In its most basic form, the income statement can be expressed as follow: Revenues (or sales) – Expenses = Profits Revenue represent the sales for the period. Profit are the difference between the firm's revenues and the expenses the firm incurred in order to generate those revenues for the period. 2. The balance sheet statement The balance sheet is a snapshot of the firm's financial position on an a specific date. In its simplest form, the balance sheet is defined by :the following equation Total Assets = Total Liabilities + Total Shareholders' Equity Total Liabilities represent the total amount of money the firm owes its creditors (including the firm's total bank and suppliers). Total shareholders' equity refers to the difference in the value of the firm total assets and the firm's recorded in the firm's balance sheet. As such, total shareholders' equity refers to the book value of their investment in the firm, which includes both the money they invested in the firm to purchase its share and the accumulation of past earnings from the firm's operation. The sum of total shareholders' equity and total liabilities is equal to the firm's total .asset, which are the resources owned by the firm The Cash Flow Statement.3 The cash flow is a report, like the income statement and balance sheet, that’s firms use to explain changes in their cash balances over a period of time by identifying all of the recourse and the uses of cash for the period spanned by the statement. The focus of cash flow statement is the change in the firm's cash balance for the period of .time covered by the statement

= Change in cash balance Ending Cash Balance – Beginning Cash Balance

Users of Financial statement 2.7
Financial statements are intended to be understandable by readers who have "a reasonable knowledge of business and economic activities and accounting and who are willing to study the information diligently." There are different kinds of users of financial statements. The users of financial statements may be inside or outside the business (Eugene, .(2000 Internal users .1 The internal users of financial statements are individuals who have direct :bearing with the organization. They may include • Owners Owners are typically the most interested user of financial statements. Not only do owners have an interest in profits, but also in the amount of money they retain for personal income. This information comes from the income statement. Owners want to know how much capital the business consumed in order to generate sales revenue. • Employees Employees have an interest in financial statements because they need assurances for job retention. Employees can also have an interest in their company's stock price, which has a close relationship to the company's accounting information. Employee stock options may increase or decrease precipitously based on the company's financial health. Employees need this information to determine if they should buy more or hold their current investment level. 2. External Users

The external users comprise of: Institutional Investors: The external users of financial statements are basically the investors who use the financial statements to assess the financial strength of a company. This would help them to make logical investment decisions. Financial Institutions: The users of financial statements are also the different financial institutions like banks and other lending institutions

• •

who decide whether to help the company with working capital or to issue debt security to it. Government: The financial statements of different companies are also used by the government to analyze whether the tax paid by them is accurate and is in line with their financial strength. Vendors: The vendors who extend credit to a business require financial statements to assess the creditworthiness of the business. General Mass and Media: The common people as well as media also make part of the users of financial statements.



Financial Ratios


3.1 Introduction
Ratios are among the more widely used tools of financial analysis because they provide symptoms of underlying condition. A ratio can help us uncover conditions and trends difficult to detect by inspecting individual component making up the ratio. Ratios, like other and analysis tools, are usually future oriented; that is, they are often adjusted for their probable future trend and magnitude, and their usefulness depends on skillful interpretation. Ratios are particularly important in understanding financial statement because they permit us to compare information from one financial statement with information from another financial statement. For example, we might compare net income (taken from the income statement) with total assets(taken from the balance sheet) to see how effectively management is using available recourses to earn a profit. For a ratio to be useful, however, the two amount being compared must be logically related. 3.2 What Does Financial Ratio Mean A ratio is a simple mathematical expression of the relationship of one item to another. It can be expressed as a percent, rate, or portion. For instance, a change in an account balance from $100 to $250 can be expressed as (1) 150%, (2) 2.5 times, or (3) 2.5 to 1 (or 2.5:1). A financial ratio is a comparison between one bit of financial information and another. Consider the ratio of current assets to current liabilities, which we refer to as the current ratio. This ratio is a comparison between assets that can be readily turned into cash -- current assets -- and the obligations that are due in the near future -- current liabilities. A current ratio of 2:1 or 2 means that we have twice as much in current assets as we need to satisfy obligations due in the near future.

3.3 Standards Of Comparison
When interpreting measures from financial statement analysis, we need to decide whether the measures indicate good, bad, or average performance.

To make such judgment, we need standard (benchmarks) for comparison that include the following: Intracompany__ The company under analysis can provide standards for comparisons based on its own prior performance and relations between its financial items. Competitor__ One or more direct competitors of the company being analyzed can provide standards for comparisons. Industry__ Industry statistic can provide standards of comparisons. Guidelines ( rules of thumb )__ General standards of comparison can develop from experience.

3.4 Financial Ratio Classification
Financial ratio can be grouped into four types (liquidity, efficiency, Investment, and profitability). No one ratio gives us sufficient information by which to judge the financial condition and performance of the firm. Only when we analyze a group of ratios are we able to make reasonable judgments. 3.4.1 Liquidity Ratio Liquidity refers to the availability of recourses to meet short-term cash requirements. It is affected by the timing of cash inflows and cash outflows along with prospect for future performance. The following ratio are widely used: • Current ratio. • Acid test ratio (Quick ratio). • Working capital ratio.

Current ratio The current ratio is calculated by dividing current assets by current liabilities:
Current ratio = Total current assets Total current liabilities

Current assets include cash, marketable securities, account receivable and inventories. Current liabilities consist of account payable, short-term note payable, current maturities of long-term debt, accrued income taxes, and other accrued expenses. It measures a company's ability to pay its expenses with money it has on hand. If the current ratio is higher than one, the company can pay its bills. For example, if a business has

$200,000 in current assets and $100,000 in current liabilities, its current ratio is 2. This means the company has $2 available to pay every $1 of debt it owes. Companies with current ratios of less than one may not be able to pay their bills, as they have fewer current assets than current liabilities. If the current ratio of the company is too low, it may be able to raise it by: • Paying some debts. • Increasing your current assets from loans or other borrowings with a maturity of more than one year. • Converting non-current assets into current assets. • Increasing your current assets from new equity contributions. • Putting profits back into the business. Acid Test Ratio (Quick Ratio) The quick ratio is calculated by deducting inventories from current assets and then dividing the reminder by current liabilities:
Acid test ratio = Current assets (excluding stock) Current liabilities

Inventories are typically the least liquid of a firm’s current assets, so they are the assets on which losses are most likely to occur in the event of liquidation. Therefore, a measure of the firm’s ability to pay off shortterm obligations without relying on the sale of inventories is important. Working Capital Ratio Working Capital is more a measure of cash flow than a ratio. The result of this calculation must be a positive number. It is calculated as shown below: (Williams, 2002)
Working Capital = Total Current Assets - Total Current Liabilities

Bankers look at net working capital over time to determine a company's ability to weather financial crises. A general observation about these three liquidity ratios is that the higher they are the better, especially if you are relying to any significant extent on creditor money to finance assets.

3.4.2 Efficiency Ratios


Efficiency ratios examine the ways in which various resources of the business are managed. The following ratios consider some of the more important aspects of resource management: • Average stock (inventory) turnover period. • Average settlement period for debtors (receivables). • Average settlement period for creditors (payables). • Sales revenue to capital employed. • Sales revenue per employee. These ratios give us an insight into how efficiently the business is employing those resources invested in fixed assets and working capital (Williams, 2002). Average stock turnover period Average stock turnover period is the ratio of cost of goods sold to inventory. This ratio indicates how many times inventory is created and sold during the period. Stocks often represent a significant investment for a business. For some types of business (for example, manufactures), stocks may account for a substantial proportion of the total assets held. The average stock turnover period measures the average period for which stock are being held. The ratio is calculated as follows:
Average stock turnover period = Average stock held × 365 Cost of sales

The average stock for the period can be calculates as a simple average of opening and closing stock levels for the year. However, in the case of highly seasonal business where stock levels may vary considerably over the year, a monthly average may be more appropriate )Foster, 1986). Average settlement period for debtors A business will usually be concerned with how long it takes for customers to pay the amounts owing. The speed of payment can have a significant effect on the business's cash flow. The average settlement period for debtors calculates how long, on average, credit customers take to pay the amounts that they owe to the business. The ratio is as follows
Average settlement period for debtors = Trade deptors × 365 Credit sales revenue


A business will normally prefer a shorter average settlement period to a longer one as, once again, funds are being tied up that may be used for more profitable purposes. Though this ratio can be useful, it is important to remember that it produces an average figure for the number of days for which debts are outstanding. This average may be badly distorted by, for example, a few large customers who are very slow or very fast payers. The average time taken by customers to pay their bills varies from industry to industry, although it is a common complaint that trade debtors take too long to pay in nearly every market ( Foster, 1986). Among the factors to consider when interpreting debtor days are: • The industry average debtor days needs to be taken into account. In some industries it is just assumed that the credit that can be taken is 45 days, or 60 days or whatever everyone else seems (or claims) to be taking. • A business can determine through its terms and conditions of sale how long customers are officially allowed to take. There are several actions a business can take to reduce debtor days, including offering early-payment incentives or by using invoice factoring( Block, 2005). Average settlement period for creditors The average settlement period for creditor measures how long, on average, the business takes to pay its trade creditors. The ratio is calculated as follows:
Average settlement period for creditors = Trade creditors ×365 Credit purchases

This ratio provides an average figure, which, like the average settlement period for debtors' ratio, can be distorted by the payment period for one or two large suppliers. As trade creditors provide a free source of finance for the business, it is perhaps not surprising that some businesses attempt to increase their average settlement period for trade creditors. However, such a policy can be taken too far and result in a loss of goodwill of suppliers. In general a business that wants to maximize its cash flow should take as long as possible to pay its bills. However, there are risks associated with taking more time than is permitted by the terms of trade with the supplier. One is the loss of supplier goodwill; another is the potential threat of legal action or late-payment charges ( Block, 2005).


Sales revenue to capital employed The sales revenue to capital employed ratio (or net assets turnover ratio) examines how effectively the assets of the business are being used to generate sales revenue. It is calculated as follows:
Sales revenue to capital employed =

Sales revenue Share capital + Reserves + Long - term (non - current) l

Generally speaking, higher sales revenue to capital employed ratio is preferred to a lower one. A higher ratio will normally suggest that the long-term capital invested in assets is being used more productively in the generation of revenue. However, a very high ratio may suggest that the business is overtrading on its assets', that is, it has insufficient capital (net assets) to sustain the level of sales revenue achieved. A variation of this formula is to use the total assets less current liabilities (which is equivalent to long-term capital employed) in the denominator (lower part of the fraction) the identical result is obtained ( Harrington, 1993). Sales revenue per employee The sales revenue per employee ratio relates sales revenue generated to a particular business resource, that is, labor. It provides a measure of the productivity of the workforce. The ratio is: ( Harrington, 1993)
Sales revenue per employee = Sales revenue Number of employees

Generally, businesses would prefer to have a high value for this ratio, implying that they are using their staff efficiently.


The relationship between profitability and efficiency In our earlier discussions concerning profitability ratios, we saw that return on capital employed is regarded as a key ratio by many businesses. The ratio is:
ROCE = Net profit before interest and taxation ×100% Long - term capital employed

Where long-term capital comprises share capital plus reserves plus longterm loans. This ratio can be broken down into two elements. The first ratio is the net profit margin ratio, and the second is the sales revenue to capital employed (net asset turnover) ratio.

By breaking down the ROCE ratio in this manner, we highlight the fact that the overall return on funds employed within the business will be determined both by the profitability of sales and by efficiency in the use of capital.


3.4.3 Investment Ratios
There are various ratios available that are designed to help investors assess the returns on their investment. The following are widely used: • Dividend payout ratio. • Dividend yield ratio. • Earnings per share. • Price/earnings ratio. Dividend payout ratio The dividend payout ratio measures the proportion of earnings that a business pays out to shareholders in the form of dividends. The ratio is calculated as follows: ( Brigham, 1979)
Dividend payout ratio = Dividends announced for the year ×100% Earnings for the year available for dividends

In the case of ordinary shares, the earnings available for dividend will normally be the net profit after taxation and after any preference dividends announced during the period. This ratio is normally expresses as percentage. Dividend yield ratio The dividend yield ratio relates the cash return form a share to its current market value. This can help investors to assess the cash return on their investment in the business.

Dividend yield =

{Dividend per share / (1 - t ) } ×100% Market value per share

Where t is the lower rate of income tax. The dividend yield ratio is also expresses as a percentage. Earnings per share

• The earnings per share (EPS) ratio relate the earnings generated by the business, and available to shareholders, during a period to the number of shares in issue. For equity shareholders, the amount


available will be represented by the net profit after tax. The ratio for shareholders is calculates as follows: (Harrington, 1993)
Earnings per share = Earnings available to ordinary shareholders Number of ordinary shares in issue

'Earning per share' is one of the most widely quoted statistics when there is a discussion of a company's performance or share value. It serves no purpose to compare the earnings per share in one company with that in another because a company can elect to have a large number of shares of low denomination or a smaller number of a higher denomination. A company can also decide to increase or reduce the number of shares on issue. This decision will automatically alter the earnings per share. Price/earnings (P/E) ratio The price/earnings ratio relates the market value of a share to the earnings per share. This ratio can be calculated as follows:
P/E ratio = Market value per share Earnings per share

The ratio is a measure of market confidence in the future of a business. The higher the P/E ratio, the greater the confidence in the future earning power of the business and, consequently, the more investors are prepared to pay in relation to the earnings stream of the business. P/E ratio provides a useful guide to market confidence concerning the future and they can, therefore, be helpful when comparing different businesses. However, differences in accounting policies between businesses can lead to different profit and earnings per share figures, and this can distort comparison ( Harrington, 1993). We should say that no single financial indicator will provide enough information to determine a company’s financial health. Therefore, ratios must be carefully interpreted. It is important to look at a group of financial ratios over a period of time, evaluate other companies with similar sales and functions, and compare performance with other companies in the same geographical area.


3.4.4 profitability Ratios
Profitability ratios are used in determining the profitability of a company. Profitability ratios (also referred to as profit margin ratios) compare components of income with sales. They give us an idea of what makes up a company's income and are usually expressed as a portion of each dollar of sales (Foster, 1986). The following ratios may be used to evaluate the profitability of the business: • Return on ordinary shareholder's funds. • Return on capital employed. • Net profit margin. • Gross profit margin. We now look at each of these in turn. Return on ordinary shareholders' funds (ROSF) The return on ordinary shareholders' funds compares the amount of profit for the period available to the owners, with the owner's average stake in the business during the same period. The ratio is as follows : ( Harrington, 1993)
ROSF = Net profit after taxation and preference dividend ×100% Ordinary share capital plus reserves

The net profit after taxation and any preference dividend is used in calculating the ratio, as this figure represents the amount of profit that is left for the owners. Note that, in calculating the ROSF, the average of the figures for ordinary shareholder's funds as at the beginning and at the end of the year has been used. It is preferable to use an average figure, as this might be more representative. This is because the shareholder's funds did not have the same total throughout the year, yet we want to compare it with the profit earned during the whole period. The easiest approach to calculating the average amount of shareholder's funds is to take a simple average based on the opening and closing figures for the year. This is often the only information available. Where not even the beginning of year figure is available, it is usually acceptable to use just the year end figure, provided that this approach is adopted consistently. This is generally valid for all ratios that combine a

figure for a period (such as net profit) with one taken at a point in time (such as shareholder's funds). Return on capital employed (ROCE) The return on capital employed is a fundamental measure of business performance. This ratio expresses the relationship between the net profit generated during a period and the average long-term capital in the business during that period. The ratio is expressed in percentage terms and is as follows:
ROCE = Net profit before interest and taxation ×100% Share capital + Reserves + Long - term loans

Note, in this case, that the profit figure used is the net profit before interest and taxation. This is because the ratio attempts to measure the returns to all suppliers of long-term finance before any deductions for interest payable to lenders or payments of dividends to shareholders are made. The figure needs to be compared with the ROCE from previous years to see if there is a trend of ROCE rising or falling. , with the return on capital employed, or net assets, being less than the rate that the business has to pay for most of its borrowed funds. To improve its ROCE a business can try to do two things:( Harrington, 1993) Improve the top line (i.e. increase operating profit) without a corresponding increase in capital employed, or • Maintain operating profit but reduce the value of capital employed. Net profit margin The net profit margin ratio relates the net profit for the period to the sales revenue during that period. The ratio is expressed as follows: ( Schall,1986)
Net profit margin = Net profit before interest and taxation ×100% Sales revenue

The net profit margin before interest and taxation is used in this ratio as it represents the profit from trading operations before the interest costs are taken into account. This is often regarded as the most appropriate measure of operational performance. When used as a basis of comparison, because differences arising from the way in which the business is financed will not influence the measure.


This ratio compares one output of the business (profit) with another output (sales revenue). The ratio can vary considerably between types of business. For example, supermarkets tend to operate on low prices and, therefore, low profit margins in order to stimulate sales and thereby increase the total amount of profit generated. Jewelers, on the other hand, tend to have high net profit margins but have much lower levels of sales volume. Factors such as the degree of competition, the type of customer, the economic climate, and the industry characteristics (such as the level of risk) will influence the net profit margin of a business. Gross profit margin The gross profit margin is the ratio of gross income or profit to sales. This ratio indicates how much of every dollar of sales is left after costs of goods sold. The gross profit margin ratio relates the gross profit of the business to the sales revenue generated for the same period. Gross profit represents the difference between sales revenue and the cost of sales. The ratio is therefore a measure of profitability in buying and selling goods before any other expenses are taken into account. As cost of sales represents a major expense for many businesses, a change in this ratio can have a significant on the 'bottom line' (that is the net profit for the year). The gross profit margin ratio is calculated as follows:( Schall, 1986)
Gross profit margin = Gross profit ×100% Sales revenue

This ratio tells us something about the business's ability consistently to control its production costs or to manage the margins its makes on products its buys and sells. While sales value and volumes may move up and down significantly, the gross profit margin is usually quite stable (in percentage terms). However, a small increase (or decrease) in profit margin, however caused can produce a substantial change in overall profits ( Harrington, 1993).

Short Summary

We’ve introduced to a few of the financial ratios that a financial analyst has in his or her tool kit. Of course there are hundreds of ratios that can be formed using available financial statement data. We’ll see in the next chapter how to use these ratios to get an understanding of a company’s condition and performance.

3.5 How to Use Financial Ratios to Make Managerial Decisions? Managers have many tools at their disposal to help with decision making, and among the key tools used are financial ratios as prepared by an accountant or financial officer. These ratios form a measure of the health of an organization, and can be a signal danger ahead, or smooth sailing. Using the quick or current ratio: • Both these ratios are a measure of current (due or liquid in one year or less) assets to liabilities, with the key difference being that inventory is subtracted from the quick ratio as it can be difficult to liquidate and have uncertain liquidation value. Ideally, the current ratio should be around 2. If it is 1 or less, this is an indication that a company may not be able to pay its bills if they came due at this point. The higher the current or quick ratios are, the more comfortable a company should be taking on new debt to finance expansion or new development efforts. If these ratios are already low, then new debt should not be acquired. • Compare your ratios to averages for your industry. See if any debt can be paid off or refinanced to long-term debt if it these ratios are too low. • Decide whether to proceed with debt-based financing of a new project, or to work harder to create more revenue first. • Increase revenue by either repositioning your products, or adding features.

Analyze your efficiency ratios: • Review your accounts receivable ratio, which is accounts receivable divided by sales times 365 days. If this is low, make a decision to double your efforts to collect on outstanding debt. Adding more stringent credit requirements, adding staff to the

accounts receivable department or hiring an outside collections agency are all ways to improve collections efficiency. • Review your sales to inventory ratio. If this is high, you may be losing sales as there is not enough inventories. It makes sense in this case to increase inventory on hand. If it is too low, then you have stocked too much inventory and need to make a decision to build less in the future. • Review your assets to sales ratio. A high number here means that you need to be more aggressive in creating sales. Decisions should be made to incentive the sales team. If this number is low, the business is generating more sales than can be covered by its assets--so assets should be increased. In this case, increasing inventories would make sense. Using profitability ratios: • Review two of the most common profitability ratios: return on assets and return on equity. Return on assets is net income/total assets, and return on equity is net income/total stockholders’ equity. • Create a plan to increase overall income if these ratios are too low, as this shows that you are not achieving enough return on your assets or your investors' money. • Incentive your team to increase sales by increasing commission percentages or adding other rewards. • Find new ways to enhance your product's acceptance in the marketplace to increase income by either repositioning the products, adding features. You can promote your products for free by using Twitter, Facebook or user forums.

3.6 Advantages and Uses of Ratio Analysis
There are various groups of people who are interested in analysis of financial position of a company. They use the ratio analysis to workout a particular financial characteristic of the company in which they are interested. Ratio analysis helps the various groups in the following manner:(Schall, 1986) To workout the profitability: Accounting ratio help to measure the profitability of the business by calculating the various profitability ratios. It helps the management to know about the earning capacity of the

business concern. In this way profitability ratios show the actual performance of the business. • To workout the solvency: With the help of solvency ratios, solvency of the company can be measured. These ratios show the relationship between the liabilities and assets. In case external liabilities are more than that of the assets of the company, it shows the unsound position of the business. In this case the business has to make it possible to repay its loans. • Helpful in analysis of financial statements: Ratio analysis help the outsiders just like creditors, shareholders, debenture-holders, bankers to know about the profitability and ability of the company to pay them interest and dividend etc. • Helpful in comparative analysis of the performance: With the help of ratio analysis a company may have comparative study of its performance to the previous years. In this way company comes to know about its weak point and be able to improve them. • To simplify the accounting information: Accounting ratios are very useful as they briefly summarize the result of detailed and complicated computations. • To workout the operating efficiency: Ratio analysis helps to workout the operating efficiency of the company with the help of various turnover ratios. All turnover ratios are worked out to evaluate the performance of the business in utilizing the resources. • To workout short-term financial position: Ratio analysis helps to workout the short-term financial position of the company with the help of liquidity ratios. In case short-term financial position is not healthy efforts are made to improve it. • Helpful for forecasting purposes: Accounting ratios indicate the trend of the business. The trend is useful for estimating future. With the help of previous years’ ratios, estimates for future can be made. In this way these ratios provide the basis for preparing budgets and also determine future line of action.

3.7 Limitations of Ratio Analysis
In spite of many advantages, there are certain limitations of the ratio analysis techniques and they should be kept in mind while using them in interpreting financial statements. If ratio analysis conducted in a mechanical, unthinking manager it would be dangerous.

The following are the main limitations of accounting ratios:(Daniel,1989) Limited Comparability: Different firms apply different accounting policies. Therefore the ratio of one firm cannot always be compared with the ratio of other firm. Some firms may value the closing stock on LIFO basis while some other firms may value on FIFO basis. Similarly there may be difference in providing depreciation of fixed assets or certain of provision for doubtful debts etc. • False Results: Accounting ratios are based on data drawn from accounting records. In case that data is correct, then only the ratios will be correct. Therefore the data must be absolutely correct. • Effect of Price Level Changes: Price level changes often make the comparison of figures difficult over a period of time. Changes in price affect the cost of production, sales and also the value of assets. Therefore, it is necessary to make proper adjustment for price-level changes before any comparison. • Qualitative Factors Are Ignored: Ratio analysis is a technique of quantitative analysis and thus, ignores qualitative factors, which may be important in decision making. For example, average collection period may be equal to standard credit period, but some debtors may be in the list of doubtful debts, which is not disclosed by ratio analysis. • Costly Technique: Ratio analysis is a costly technique and can be used by big business houses. Small business units are not able to afford it. • Misleading Results: In the absence of absolute data, the result may be misleading. For example, the gross profit of two firms is 25%. Whereas the profit earned by one is just $ 5,000 and sales are $ 20,000 and profit earned by the other one is $ 10,000 and sales is $ 40,000. Even the profitability of the two firms is same but the magnitude of their business is quite different. • Absence of Standard Universal Accepted Terminology: There are no standard ratios, which are universally accepted for comparison purposes. As such, the significance of ratio analysis technique is reduced.


3.8 Summary
The main points in this chapter may be summarized as follows: Ratio analysis • Ratios compare two related figures, usually both from the same set of financial statements. • Ratios are an aid to understanding what the financial statements portray. • Past analysis is an inexact science and so results must be interpreted cautiously. • Past periods. The performance of similar businesses and planned performance are often used to provide benchmark ratios. A brief overview of the financial statements can often provide insights that may not be revealed by ratios and/or may help in the interpretation of them. Liquidity ratio – concerned with the ability to meet short-term obligations • Current ratio. • Acid test ratio. • Working capital ratio. Efficiency ratio – concerned with efficiency of using assets/resources • Average stock (inventory) turnover period. • Average settlement period for debtors (receivables). • Average settlement period for creditors (payables). • Sales revenue to capital employed. • Sales revenue per employee. Investment ratios – concerned with returns to shareholders • Dividend payout ratio. • Dividend yield ratio. • Earnings per share. • Price/earnings ratio. Profitability ratios – concerned with effectiveness at generating profit • Return on ordinary shareholders' funds (ROSF).

• Return on capital employed (ROCE). • Net profit margin. • Gross profit margin.



Applied Study


Introduction 4.1
In this chapter we will take Palestinian Communications Company as a case study for my research, and we will use its 2009 to 2010 financial statements in calculating the key ratios to get a deeper understanding for .our topic

Key Steps in Financial Ratio Analysis 4.2
:When undertaking ratio analysis, analysts follow a sequence of steps The first step involves identifying the key indicators and relationships that require examination. In carrying out this step, the analyst must be clear who the target users are and why they need the information. We saw earlier that different types of users of financial information are likely to have different information needs that will, in turn, determine the ratios that they find useful. The next step in the process is to calculate ratios that are considered appropriate for the particular users and the purpose for which they require the information. The final step is interpretation and evaluation of the ratios. Interpretation involves examining the ratios in conjunction with an appropriate basis for comparison and any other information that may be relevant. The significance of the ratios calculated can then be established. Evaluation involves forming a judgment concerning the value of the information uncovered in the calculation and interpretation of the ratios. Whereas calculation is usually straightforward, and can be easily carried out by computer, the interpretation and evaluation are more difficult and

often require high levels of skill. This skill can only really be acquired .through much practice. The three steps described are shown in Figure 4.1

Now we will take a quick view for the Palestine Telecommunications .Company which is our research’s case study

Palestinian Telecommunications Company 4.3
Corporate Information 4.3.1 Palestine Telecommunications Company P.L.C. (PALTEL) is a limited liability public shareholding company registered and incorporated in Nablus - Palestine on August 2, 1995. PALTEL commenced operations on January 1, 1997. PALTEL operates under the Telecommunication Law No. (3) of 1996 decreed by the Palestinian National Authority (PNA). PALTEL is engaged in providing, managing, and rendering wire .line and wireless services The consolidated financialstatementsofPalestineTelecommunicationsCompanyP.L.C.forthe yearended December 31, 2009 was authorized for issuance in accordance () .with a resolution of the Board of Directors on March 10, 2010 PalTel Group 4.3.2 .The People. The Companies. The Principles Goodwill begets goodwill and success will always breed success. " .responsibility .Sabih Masri, Chairman, of PalTel Group

The Mission 4.3.3 Maximizing shareholder value with perpetual growth and enriching Palestine's information communication technology sector with a commitment to excellence and with continues commitment to major .society social issues The Promise 4.3.4 .Perpetual Growth in Palestine The Vision 4.3.5 Technology is a tool for both human resource development and nation building. The future holds opportunities that will evolve with the .convergence of Information technology and communications The opportunities intertwined with the convergence trend will exponentially grow. The foremost challenge is utilizing those opportunities with a certain, solid discipline that is based on the scientific .thinking process and good governance The Methodology 4.3.6 We firmly believe that good governance leads to increase in shareholder .equity. Ethics and profits are never mutually exclusive .From our vision and Mission stems our overall methodology :We base our methodology on six pillars following pillars I. Creating national partnerships in Palestine based on win/win .scenarios II. Our people are unique and well-trained. The career paths of our .professionals are as important as any item on our balance sheet III. Customers are interested in tangible, convenient and high value products of technology (and not technology per say). It is true that technology provides opportunities for growth. But, at each level of the value chain, players are demanding higher levels of efficiency, better quality and lower prices. Therefore, our teams will focus on the continuous improvement of a seamless process that introduces high quality products and services that are developed from technological .improvements


IV. We Think. We develop our thoughts with creative techniques and a .culture of excellence V. Corporate Social Responsibility endeavors are not a mere obligation. They are a cherished responsibility. Our people will contribute and we will work side by side with the Palestinian authority institutions, local communities to all social development aspects in Palestinian .cities, villages and communities VI. Fair competition is always healthy and continually beneficial on both the micro and the macro levels. Our teams will enhance and improve our overall levels to improve our ability to compete. Our teams enhance our companies' competitiveness by realizing plans and ideas .that improve our economies of scale ?What Can PalTel Group Do For You 4.3.7 PalTel Group is built on a tradition of success and a convention of continuous improvements. We never stop developing our people, our products and our procedures and plans. The PalTel Group people, nationwide, are committed and dedicated to serve our customers. They are committed to creative thinking that produces ideas that spawn, new .services, new products and new Palestinian companies As a shareholder and/or customer, expect clear and transparent professional procedures when dealing with any of our teams on both the .demand side and the supply side We value the investment (large and small) of all our shareholders and we .are committed to offer the highest returns, every month of every year We value each customer and we are dedicated to serve and honor his/her .needs and demands We value the social life, environment, health and safety of our communities. Moreover we are devoted to enhance and improve the state .of our nation...Palestine

Financial Ratios Analysis 4.4
Now we will analyze the financial statements of the Palestine Telecommunications Company (PALTEL) for the year 2010 and 2009, .using financial ratios analysis Figure 4.2 shows the Income Statement for this company, and Figure 4.3 shows the Balance Sheet for the same company which we will use them .in our analysis

Figure 4.2 Palestine Telecommunications Company P.L.C Consolidated income statement For the year ended December 31, 2010


Figure 4.3

profitability ratios 1.4.1
The following ratios may be used to evaluate the profitability of the :business • Return on ordinary shareholder's funds.

• Return on capital employed. • Net profit margin. • Gross profit margin. .We now look at each of these in turn (Return on ordinary shareholders' funds (ROSF :The ratio is as follows From the balance sheet of the company we can notice that there are three types of reserves which are: statutory reserve, voluntary reserve, and special reserve, so the total reserves will be the sum of these three .reserves
Total reserves for 2009 = 32,906 + 6,756 + 7,950 = JD 47,612 Total reserves for 2010 = 32,906 + 6,756 + 7,950 = JD 47,612 :The ROSF for 2009 is
ROSF = 70,335 ×100% = 78.4% (131,625 + 47,612) / 2 86,336 ×100% = 96.34 % (131,625 + 47,612) / 2

:The ROSF for 2010 is

The total of the shareholder's funds for the year 2009 was JD 131,625. By a year later, however, it had still the same equaled to JD 131,625, .according to the balance sheet as at 31 December 2010

(Return on capital employed (ROCE :The ratio is expressed in percentage terms and is as follows
:ROCE for 2009 is

:ROCE for 2010 is
ROCE = 90,491 ×100% = 42.15% 131,625 + 47,612 + 35,450

ROCE is considered by many to be a primary measure of profitability. It compares inputs (capital invested) with outputs (profit). This comparison . is vital in assessing the effectiveness Net profit margin

:The ratio is expressed as follows :Net profit margin for 2009 is :Net profit margin for 2010 is
Net profit margin = 90,491 ×100% = 26.62% 339,929

A good performance compared with that of 2009. Whereas in 2009 for every JD 1 of sales revenue and average of 22.3 (that is, 22.3 %) was left as profit, after paying other expenses of operating the business, for 2010 .this had increased to 26.62 for every JD 1 Gross profit margin :The gross profit margin ratio is calculated as follows :Gross profit margin for 2009 is :Gross profit margin for 2010 is
Gross profit margin = 261,071 ×100% = 76.8% 339,929

The increase in this ratio means that gross profit was higher relative to :sales revenue in 2010 than it had been in 2009. Bearing in mind that (Gross profit = sales revenue – cost of sales (or cost of goods sold This means that cost of sales was lower relative to sales revenue in 2010, .than in 2009 This could means that sales prices were higher and the purchase cost of goods sold had decreased. It is possible that both sales prices and goods sold prices had increased, but the former at a greater rate than the latter. Similarly, they may both have increased, but with sales prices having .increased at a higher rate than costs of the goods sold The analyst must now carry out some investigation to discover what caused the increases in both cost of sales and operating costs, relative to sales revenue, from 2009 to 2010. This will involve checking on what has happened with sales and stock prices over the two years. Similarly, it will involve looking at each of the individual expenses that make up operating costs to discover which ones were responsible for the increase, relative to .sales revenue

Efficiency Ratios 4.4.2
:The following ratios are considered as efficiency ratios • Average settlement period for debtors (receivables). • Sales revenue to capital employed. Average settlement period for debtors :This ratio is as follows
Average settlement period for debtors = Trade debtors × 365 credit sales revenue

:Average settlement period for debtors for 2009 is
Average settlement period for debtors = 63,313 ×365 = 73.3 days 315,092 69,642 ×365 = 74.78 days 339,929

:Average settlement period for debtors for 2010 is
Average settlement period for debtors =

This increase in the average settlement period is not welcome. It means that more cash was tied up in debtors for each JD 1 of sales revenues in .2010 than in 2009 Sales revenue to capital employed :This ratio is calculated as follows
= Sales revenue Share capital + Reserves + Long - term (non - current) loans
315,092 = 1.3 times 131,625 + 47,612 + 51,360

s revenue to capital employed

:Sales revenue to capital employed for 2009 is
Sales revenue to capital employed =

:Sales revenue to capital employed for 2010 is
Sales revenue to capital employed = 339,929 = 1.58 times 131,625 + 47,612 + 35,450

This seems to be an improvement, since in 2010 more sales revenue was being generated for JD 1 of capital employed (1.58) than the case in 2009 .((1.3 Generally speaking, higher sales revenue to capital employed ratio is preferred to a lower one. A higher ratio will normally suggest that the long-term capital invested in assets is being used more productively in the .generation of revenue

Liquidity Ratios 4.4.3
:The following ratios are widely used • Current ratio.

• Acid test ratio. • Working capital ratio. Current ratio :The ratio is calculated as follows
Current ratio = Current assets Current liabilities
184,110 = 1.7 times 107,807 213,260 = 2.15 times 98,972

:The current ratio for 2009 is
Current ratio =

:The current ratio for 2010 is
Current ratio =

Though this is an increase from 2009 to 2010, it is not necessarily a .matter of concern Acid test ratio :The acid test ratio is calculated as follows
Acid test ratio = Current assets (excluding stock) Current liabilities
184,110 −11271 =1.6 times 107,807

:Acid test ratio for 2009 is
Acid test ratio =

:The acid test ratio for 2010 is
Acid test ratio =

213,260 − 8,926 = 2.06 times 98,972

Working Capital Ratio It is calculated as shown below:
Working Capital =

Total Current Assets - Total Current Liabilities

:Working Capital for 2009 is
Working Capital = 184,110 – 107,807 = 76,303

:Working Capital for 2010 is
Working Capital = 213,260 – 98,972 = 87,767


Investment Ratios 4.4.5
There are various ratios available that are designed to help investors :assess the returns on their investment. The following are widely used • Dividend payout ratio. • Earnings per share. Dividend payout ratio :The ratio is calculated as follows
Dividend payout ratio = Dividends announced for the year ×100% Earnings for the year available for dividends

:The dividend payout ratio for 2009 is
Dividend payout ratio = 32,906 ×100% = 36.8% 89,180 52,650 ×100% = 74.8% 70,335

:The dividend payout ratio for 2010 is
Dividend payout ratio =

This would normally be considered to be a very alarming decline in the ratio. Paying a dividend of JD 52,650 in 2009 would probably be .regarded as very important

Earnings per share :This ratio is calculated as follows
Earnings per share = Earnings available to ordinary shareholders Number of ordinary shares in issue

The earnings per share for the year ended 31 December 2009 is as :follows
EPS = 70,335 = 0.534 131,625

The earnings per share for the year ended 31 December 2010 is as :follows
EPS = 86,336 = 0.655 131,625



Conclusion &


The financial statements are windows into a company's performance and health. Analysis and interpretation of financial statements is an important tool in assessing company’s performance. It reveals the strengths and weaknesses of a firm. It helps the clients to decide in which firm the risk is less or in which one they should invest so that maximum benefit can be earned. It is known that investing in any company involves a lot of risk. So before putting up money in any company one must have thorough knowledge about its past records and performances. Based on the data available the trend of the company can be predicted in near future.

This project mainly focuses on the financial ratios analysis as a method of analyzing the financial statements. Often firms make their financial data available to the public to show workers and investors how well the company is doing. For private firms, statement analysis and industry comparisons are done for internal use. A few simple ratio calculations can shed light on how well a company is doing and how it is making profits. Those same ratio calculations are done by lenders on personal financial data when individuals apply for a mortgage or an auto loan. When you are analyzing a financial statement, it is best to reduce amount comparisons to percentages or ratios so that you have an easy way to judge those comparisons. And if you compare those ratio results with what you know to be good, fair or bad, you have a way of determining the health of a business.Simply put, ratio analysis is changing amount comparisons to ratios and then comparing those ratios to a known standard. Everyone in the business of analyzing financial statements has a few favorite ratios they utilize when determining the strengths or weaknesses of a specific financial statement. The ratios that are used could change depending upon the industry the business is in, the size of the business, the accounting method that is used by the business and the amount of the credit desired and how healthy the company is. From ratio analysis of Balance Sheet and P & L Statement of Palestine Telecommunications Company of 2009-2010 it was concluded that liquidity position of the company is good, current ratio, quick ratio, and working capital were found to be acceptable. Short term liquidity position of Palestine Telecommunications Company was good in 2009 and 2010. However, current ratio, quick ratio, return on ordinary shareholder's funds ratio, return on capital employed ratio, net profit margin ratio, gross profit margin ratio, sales revenue to capital employed ratio, and earnings per share for the year 2010 were satisfactory compared with the year 2009. The ratios that were found to be unsatisfactory are average settlement period ratio.


5.2 RECCOMMENDATIONS • Palestine Telecommunications Company needs to reduce its sales prices and goods sold prices. • The company should increase its “profit before interest and taxation” to get a good return on its shareholders' funds and its capital employed. • The company also should generate more profits before interest and taxation to get good net profit margin ratio. • It will be very good if the company tried to decline the average settlement period for debtors more and more. • The company should use its long-term capital invested in assets more productively in the generation of revenue. • The company should keep or even increase its liquid current assets to cover its current liabilities all the time, and that will protect the company from experiencing some liquidity problems. • The company should increase its earnings per share more and more, because this will be very good.


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