Logical understanding of Financial Analysis | Ratio Analysis Types and Importance | Liquidity Ratio

everyone this is muhammad sawrap and you 
are watching our search virtual learning   it's our second session today we will do 
some ratio analysis uh but before that   uh i would like to introduce you to one of 
the top and successful uh investor in the   world and one of the top financial 
analysts his name is warren buffet   forbes magazine listed one of your name as the 
richest person in the world and according to the   estimation his wealth his wealth was 62 billion 
dollars so the question is how warren buffet how is very simple he earned this amount through 
investing through investing in different companies   what was his strategy before investing in any 
company according to warren buffet in 1950 he   learned the technique of investing in company but 
before investing he said that and that analysis   are extremely important so let's know what was 
the strategy wrote was the technique of what   boring buffet warning of before and masking in 
any company according to warren buffet he invest   in those companies that have good long-term 
potential and they are currently underpriced   so this was one of his technique of investing in 
different companies he said that i invest in those   companies which are enterprised but they have 
long-term potential so how he calculated this data   how he could do nothing which company has long 
term potential and which company has underpriced   in uh grants native so he used a financial 
analysis before making any investment he used fine   used financial analysis and on the 
passes of those analysis he taken his old   decisions of investment so he earned 
62 billion dollars uh through investing   in different companies but before that he 
said that analysis are critically important   they decide analysis decide whether uh you should 
invest in any company or not so it was all about   warren buffet so have you got the importance of 
financial analysis so guys financial analysis mean   as i said you earlier in previous session that 
financial analysis introduced us to different   methods of analysis where we use the financial 
information or financial statement of a company   and on the passes of that statement we get to 
know about the strength and weaknesses of that   company we use financial statement of a company 
and we analyze how that company has performed   in the past and how this company will perform 
in the future okay guys financial analysis are   being performed on financial statement okay and 
financial statement consists on three statements   one is balance sheet then second is income 
statement and then third is cash flow statement   okay financial statement for corporations are 
are the are the balance sheet income statement   and cash flow statement so user need to understand 
these statement very deeply okay the data on which   we perform different analysis we extract their 
data from these three statements so we must know   that which data is which data is being provided 
by which statement uh when we talk about balance   sheet balance sheet show the financial condition 
or financial position of an entity and balance   sheet sheet consists on three major sections the 
resource or firm which called assets and then   the debt of firms which called liabilities and 
then the investment of the honored which called   as equity or kpl okay i i'm repeating it again 
vanishing consists of three major sections one is   uh the resources of the firm which called as exit 
okay then the date of the firm which called as   liabilities and the amount which is being invested 
by the on it is called you could equity or capital   okay so all data related to assets liabilities 
and equity is available in balance sheet okay   okay guys then second major statement is income 
statement or guess that income statement uh showed   the performance of the business during a specific 
period summarize the result of our operation for a   particular time period okay so income 
statement provides the information related to   the company performance how that company has 
performed in previous year and it consists on   sales expenses and profit like it show how much 
profit we have earned during the period and how   much expenses we during the period so all uh data 
related to sales expenses and profit is available   in income statement okay then the last statement 
is a statement of cash flow the statement of   cash flow detail the inflow and outflow of cash 
during a specific period so it consists on three   sections one is uh cash flow from uh operating 
activities then second is cash flow from   and lasting activities and again then last 
is cash flow through financing activities   when it comes to financial statement analysis 
there are several methods of analysis   the most common methods are ratio analysis common 
size analysis and dew point framework analysis   each of these analysis are so necessary because 
they provide the detail uh information about the   company they show us the health of the company 
through in terms of financial uh position in   today's session we will uh discuss about ratio 
analysis and we will study ratio analysis in   more detail and we will perform different ratio 
analysis so what actually uh why actually we do   ratio analysis because it has shown this is tell 
us about the uh capacity of the firm the worrying   capacity of the firm the profitability of the 
platform and and the efficiency of the firm   further assurances also uh tell us how the firm 
is operating so ratios are so necessary and we   today will do different ratio analysis okay guys 
when it come to fresh analysis ratio analysis   are so necessary because ratio analysis evaluate 
the financial health of companies by scrutinizing   past and current financial statement okay so 
what actually we do in financial ratio analysis   in pressure analysis we extract data from these 
three statements which we have studied uh here   uh these statements consist on financial in 
balance sheet income statement and cash flow   statements we extract data from these statements 
and then we perform different analysis and we   uh extract the relevant data from these 
statements and on the basis of their data   we evaluate that data and rational analysis 
are divided into four groups one is liquidity   ratio then second is solvency ratio and 
then third is profitability ratio and then   fourth is efficiency ratio so guys what 
is our objective of doing this analysis   because uh users of financial statement use this 
ratio to know about the health of the company okay   so the user of the financial statement use these 
ratio to know about the health of a company   so as today we will do different ratios and the 
first ratio is liquidity ratio what hd liquidity   ratio is liquidity ratio measure the ability 
of the firm to repay its short-term obligations   okay it measure whether company will be able to 
repay its short-term or current obligations or not   through its current assets okay because liquidity 
ratio measure the ability of the borrower   to pay obligations when they come to you when 
they come to you so liquidity issue measure   the ability of the borrower to pay its 
obligations when they come to you so if   the liquidity of our firm is strong strong then 
definitely i will provide more credit to that firm   so these ratios are necessary for those who 
provide short-term obligations who provide   short-term credit to uh firm when we 
talk about solvency ratios solvency   ratio measures the ability of the firm to 
repay its long-term liabilities okay so   the difference between liquidity and solvency 
ratio is that so a liquidity ratio measures the   short-term obligation of the firm to repair its 
obligations and solvency ratio main the long-term   ability of the firm to repay its obligations so if 
i am a long-term creditors then definitely i will   interested in solvency ratios okay because 
it measure the profitability and solvency   of the firm ability of the firm to survive over 
a longer period of time and whether that company   will be able to repay its long-term creators 
or not this is being indicated by the solvency   ratio user of financial statement use these ratios 
like a short-term trader like supplier or banker   will use solvency ratio because they want to know 
whether the firm is able to repair liabilities or   not in the in a shorter period okay if the user 
is long-term creator then definitely you will   interested to know about the servancy position 
of the firm and if the user is shareholder   then he will interested to know about the 
profitability ratio because profitability ratio   measure how the company has converted converted 
its revenue into profit how company has controlled   its uh its expenses and it has converted its 
revenue into profit so uh shareholders looks at   the profitability and solvency of the company 
because they want to assess the likelihood   of dividend and the growth potential of the 
stock so a profitability ratio is necessary for   shareholders okay then the last is efficiency 
ratio so the efficiency ratio measure how   company has used its assets and how efficiently 
company has used its asset and how the firm has   converted the use of its asset into revenue 
or profit so so the efficiency ratios are so   necessary because it's measured the usage of 
acid how efficiently firm is using its asset   so today we will do liquidity ratios and as i 
said you earlier that liquidity ratio measures   the ability of the firm to pay its current 
obligations what does this mean this means that   it measures the ability of the firm to pay off its 
short-term liabilities oh let me repeat it again   liquidity ratio measure the ability of the 
firm pay its short-term obligations okay   and to meet the unexpected need of cash 
the short-term creditors such as banks and   suppliers are too not too much interested to know 
about the liquidity ratios because they provide   short-term obligations to the firm and they are 
interested to know the short-term ability of the   firm to repay its obligations so obviously we 
calculate liquidity ratio the liquidity ratios   are a result of dividing liquid assets by the 
short-term borrowing or current liabilities okay   so liquidity ratio contents on three types of 
ratios okay liquidity ratios content on three   types of ratios one is current ratio then second 
is quick ratio and then third is cash ratios   first you will measure current ratios when 
what is the current ratio is current ratio   measure the ability of the firm to repay its 
uh short-term liabilities as we studied here   so the current ratio will measure 
whether the firm is able to pay its   short-term liabilities or not so how actually 
we calculate uh trend ratios and which   data is required for current ratios as its name 
suggests that a portion related to current data   is available in balance sheets where we divide our 
assets into current or non-current assets and then   we also divide our liabilities into current 
liabilities and non-current liabilities so   its name suggests that we have to bring data that 
is related to friend uh trend data so the current   data is available in the form of current assets 
and then in the form of current liabilities so   how we calculate current ratios current ratios 
equal to total current assets divided by   total current lines so how we calculate 
condition by dividing our own current assets   with the current liabilities so the question 
is what the results of current ratio indicates   so the result indicate that for every dollar 
of liabilities how much current assets did   you have to pay for that liabilities 
so your current ratio is more than one   that indicate that the firm has more assets than 
its liabilities and the firm is able to pay its   short-term liabilities i'm repeating it again 
if you are cr current ratio is more than one   that indicate that firm has the ability to build 
short-term liabilities uh it's its assets are more   than its current liabilities its current assets 
are more than its current liabilities so as let's   calculate current ratio as we know that current 
ratio is calculated by dividing all current assets   by uh total current liabilities so we have 
these current current assets okay here i listed   the current assets and here are some current 
liabilities so how we can calculate it we will uh   add all our current assets equal to 5000 plus uh 
6000 plus four thousand plus seven thousand plus   two thousand so that current assets are twenty 
twenty twenty four thousand dollars now i will uh   add all the current liabilities here okay so 
print liability is equal to 7000 for account   payable and then and then uh 9000 for short-term 
loan okay so the current liabilities are for   16 000 so let's divide this figure and know the 
results okay so here i will divide this figure   equal to 24 000 divided by 16 000 so here is 
the result and it is 1.5 okay the result is   1.5 so what actually this results suggest 
and what actually this result indicates so let's know what actually this result indicate 
so uh the current ratio is 1.5 that mean our   short-term obligations are fully covered because 
the ratio is more than one and the firm is able to   pay its short-term liabilities okay so the current 
ratio greater than one indicate the company is in   good health and it is less likely uh fall into 
financial difficulties and further 1.5 mean 1.5   million date for every dollar of front liabilities 
for every dollar of current liabilities   this company has 1.5 dollars of current assets i 
am repeating it again what xd 1.5 indicates that   for every dollar of current liabilities 
for every dollar of current liabilities   this firm has 1.5 dollars of front assets 
it's obvious that this firm is able to pay its   current liabilities through its current 
assets because because its current assets are   more than its current liabilities this form has 
adequate current assets relative to its current   liabilities so this was the interpretation of 
this result and so the second ratio is quick   ratio guys so what why actually we calculate quick 
ratio why uh current ratio is not enough for our   liquidity ratios and liquid for calculation of 
liquidity ratios because current ratio consists   on many current assets and so here are many assets 
which take time in converting into the cash so   liquidity mean those assets which quickly respond 
again against the current liabilities be so here   are some assets which uh doesn't respond quickly 
to our current liabilities like we have inventory   which is one of the slow uh so uh inventory 
is slow moving inventory because it take time   in converting into the cash so we want those 
assets which quickly convert into the cash   and so we pay over current liabilities so here are 
some assets which take time in converting into the   cash so we will exclude those assets which take 
time in converting into liquid form so we will add   just those assets which quickly convert or which 
we could uh now we will calculate quick ratio   and quick ratio includes on those assets which 
quickly or immediately convert into cash and   they quickly uh liquidate or and doesn't take 
time in liquidation or which assets actually   we exclude from this list we will exclude 
inventory and prepaid expenses why we actually   exclude inventory because inventory takes time 
in converting into cash so because inventory is   slow moving uh assets so inventory is slow moving 
assets so we will exclude it from here because we   because inventory is in different form like it 
could be in the form of a raw material it could be   in the form of work in progress so it could be in 
the form of finished goods so we do not know that   when our raw material will convert into 
finish good and when our finished good will be   sold to our customers so that's why we exclude 
inventory because inventory take too much time   in converting into liquid form so uh because 
quick show includes those assets which quickly and   immediately immediately convert into cash so 
we actually want to know how quickly we can   respond against our current liabilities let's 
calculate quick ratio so we will exclude   inventory from our from quick ratios from 
quick uh assets and then we will exclude   prepaid expenses from our quick assets 
okay so here uh we will add over all   uh quick assets which were cash for five thousand 
and then accountable for six thousand then   uh cash for grant is for seven thousand so the 
quarterback assets are for eighteen thousand   so let's calculate our total liabilities here 
are for account payable is for seven thousand   then short-term loan is for nine thousand so so 
the total liabilities are for sixteen thousand   so let's calculate its ratio eighteen thousand 
divided by 16 000 so the quick ratio is 1.125 so   what actually this figure indicated it indicate 
that so here the value is greater than 1 that   in that indicate that the short-term obligations 
are fully covered because quick ratio is greater   than one indicate that form has good financial 
condition and it is less likely that firm will   face financial difficulties and this firm is 
able to pay its short-term liabilities through   its quick ratio so furthermore we can say that 
for every dollar of current liabilities this firm   has 1.125 dollar of current assets so this 
firm can pay its current liabilities okay   so let's calculate now we will calculate cash 
ratio okay so here actually we want to know that   how much cash do we have in our company to pay 
our total current liabilities so the current   assets will include cash and cash equivalent 
for the cash equivalent includes money market   accounts treasury bills and we can easily convert 
them into cash we can convert these assets   into cash more quickly so we will consider these 
assets as cash so our total assets are for twelve   thousand and our total liabilities are for seven 
thousand plus nine thousand and total liabilities   are for sixteen thousand so let's see cash ratio 
so 12 000 divided by 16 000 so the ratio is 4.   so the crash ratio is 0.75 what does this mean 
this mean that against one dollar of liability   firm has less cash than its liabilities so 
this firm is unable to pay its total current   liabilities through its through the source of 
cash the firm has less cash than its total current   liabilities and firm is unable to pay its all 
liabilities through the source of cash so we can   say that for every dollar of current liabilities 
firm has 0.7 uh dollar cash current assets firm   has 0.7 current assets so that means so cash is 
less than liabilities so firm is unable to pay its   current liabilities through the source of cash 
through the asset of cash hopefully this was a   nice session for girls and we will meet in next 
session next session we will do solvency ratios

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