Match List–I with List–II : List I (Useful ratio) List II (Symptom) (a) (i) (b) (ii) (c) (iii) (d) (iv)Finished goods turnover ratio Liquidity crisis Interest coverage ratio Inability to pay dues to financial institutions Debt-service coverage ratio Inability to pay interest Current ratio and quick ratio Falling demand for the product in the market
Select the correct answer using the codes given below.
Let's analyze the relationship between the useful financial ratios and the symptoms they might indicate in a business.
The question asks us to match items from List–I (Useful ratio) with items from List–II (Symptom).
| List I (Useful ratio) | List II (Symptom) |
|---|---|
| (a) Finished goods turnover ratio | (i) Liquidity crisis |
| (b) Interest coverage ratio | (ii) Inability to pay dues to financial institutions |
| (c) Debt-service coverage ratio | (iii) Inability to pay interest |
| (d) Current ratio and quick ratio | (iv) Falling demand for the product in the market |
Understanding Finished Goods Turnover Ratio and Demand
The finished goods turnover ratio measures how efficiently a company sells its finished goods inventory. It is calculated as:
\(\text{Finished Goods Turnover Ratio} = \frac{\text{Cost of Goods Sold}}{\text{Average Finished Goods Inventory}}\)
A low finished goods turnover ratio means finished goods are sitting in the warehouse for a longer time before being sold. This slow movement of inventory is often a direct symptom of falling demand for the product in the market. If customers aren't buying the product, the company's finished goods inventory builds up, leading to a low turnover ratio.
Therefore, (a) Finished goods turnover ratio matches with (iv) Falling demand for the product in the market.
Understanding Interest Coverage Ratio and Interest Payments
The interest coverage ratio measures a company's ability to pay interest expenses on its outstanding debt. It is calculated as:
\(\text{Interest Coverage Ratio} = \frac{\text{Earnings Before Interest and Taxes (EBIT)}}{\text{Interest Expense}}\)
A low interest coverage ratio means that a company's earnings are barely sufficient to cover its interest payments. A ratio below 1 indicates that the company is not even earning enough to pay its interest obligations, directly signifying an inability to pay interest.
Therefore, (b) Interest coverage ratio matches with (iii) Inability to pay interest.
Understanding Debt-Service Coverage Ratio and Financial Dues
The debt-service coverage ratio (DSCR) is a measure of the cash flow available to pay current debt obligations. It considers both interest and principal payments, as well as other necessary expenses related to debt service. It is typically calculated as:
\(\text{DSCR} = \frac{\text{Net Operating Income}}{\text{Total Debt Service (Principal + Interest payments)}}\)
A low DSCR indicates that the company's operating income is insufficient to cover its total debt obligations (both interest and principal). This directly points to an inability to pay dues to financial institutions that have provided loans or other forms of debt.
Therefore, (c) Debt-service coverage ratio matches with (ii) Inability to pay dues to financial institutions.
Understanding Current and Quick Ratios and Liquidity
The current ratio and quick ratio are key indicators of a company's short-term liquidity – its ability to meet its short-term obligations using its short-term assets.
Current Ratio = \(\frac{\text{Current Assets}}{\text{Current Liabilities}}\)
Quick Ratio = \(\frac{\text{Current Assets - Inventory}}{\text{Current Liabilities}}\)
Low values for both the current ratio and the quick ratio indicate that a company may not have enough liquid assets readily available to cover its short-term debts as they become due. This situation is commonly referred to as a liquidity crisis, where the company struggles to meet its immediate payment obligations.
Therefore, (d) Current ratio and quick ratio match with (i) Liquidity crisis.
Summary of Matching Pairs
- (a) Finished goods turnover ratio – (iv) Falling demand for the product in the market
- (b) Interest coverage ratio – (iii) Inability to pay interest
- (c) Debt-service coverage ratio – (ii) Inability to pay dues to financial institutions
- (d) Current ratio and quick ratio – (i) Liquidity crisis
This gives the matching sequence: a - 4, b - 3, c - 2, d - 1.
Important Questions from Ratio analysis
A company sold 20% of the goods on cash basis and balance on credit basis. Debtors are allowed \(1\frac{1}{2}\) months’ credit and their balances as on 31st March, 2023 is Rs. 1,25,000. Assume that the sale is uniform throughout the year. Credit sales would be
The amount of closing stock would be, when
Sales - Rs. 6,00,000
Opening Stock - Rs. 50,000
Purchases - Rs. 5,00,000
Productive Wages - Rs. 10,000
Carriage Inwards - Rs. 7,000
Rate of Gross Profit on cost - 20%
Consider the below mentioned statements and state the correct code of the statements being true or false.
Statement (I): A debt-equity ratio of 2 : 1 indicates that for every 1 unit of equity, the company has raised 2 units of debt.
Statement (II): The cost of floating an equity issue is lesser than the cost of floating a debt
Code:
Debt Service Coverage Ratio indicates which one of the following?
As per Du Pont equation for ROE, other things remaining constant, which of the following statements is false?
A. An increase in the net profit margin will increase the ROE.
B. A decrease in debt to asset ratio will increase the ROE.
C. A decrease in return on assets will decrease the ROE.
D. An increase in the average asset turnover will increase the ROE.
E. An increase in equity multiplier will increase the ROE.
Choose the correct answer from the options given below:
