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RATIO ANALYSIS
Ratio Analysis is a form of Financial Statement Analysis that is used to obtain a quick indication of a firm's
financial performance in several key areas. The ratios are categorized as Short-term Solvency Ratios, Debt
Management Ratios, Asset Management Ratios, Profitability Ratios, and Market Value Ratios.
Ratio Analysis as a tool possesses several important features. The data, which are provided by financial
statements, are readily available. The computation of ratios facilitates the comparison of firms which differ
in size. Ratios can be used to compare a firm's financial performance with industry averages. In addition,
ratios can be used in a form of trend analysis to identify areas where performance has improved or
deteriorated over time.
Because Ratio Analysis is based upon Accounting information, its effectiveness is limited by the
distortions which arise in financial statements due to such things as Historical Cost Accounting and
inflation. Therefore, Ratio Analysis should only be used as a first step in financial analysis, to obtain a
quick indication of a firm's performance and to identify areas which need to be investigated further.

2. THE DU-PONT IDENTITY


A method of performance measurement was started by the DuPont Corporation in the 1920s. With this
method, assets are measured at their gross book value rather than at net book value in order to produce a
higher return on equity (ROE).It is also known as "DuPont identity".
DuPont analysis tells us that ROE is affected by three things:
- Operating efficiency which is measured by the profit margin,
- Asset use efficiency, which is measured by total asset turnover
- Financial leverage, which is measured by the equity multiplier
ROE

Sales
Sales

Return on equity

=
=

Net income
Total equity
Net income
Total assets

Net income
Total assets

Assets
Total equity

Net income
Total equity
Assets
Total equity

=
X

Assets
Assets

3. EXTERNAL FINANCING AND GROWTH


External financing needed and growths are obviously related. All other things staying the same, the higher
the rate of growth in sales or assets, the greater will be the need for external financing. In the previous
section, we took a growth rate as given, and then we determined the amount of external financing needed
to support that growth. In this section, we turn things around a bit. We will take the firms financial policy
as given and then examine the relationship between that financial policy and the firms ability to finance
new investments and thereby grow. Once again, we emphasize that we are focusing on growth not because
growth is an appropriate goal; instead, for our purposes, growth is simply a convenient means of examining
the interactions between investments and financing decisions. In effect, we assume that the use of growth
as a basis for planning is just a reflection of the very high level of aggregation used in the planning process.

4. FINANCIAL PLANNING MODELS


Financial planning models do not always ask the right questions. A primary reason is that they tend to rely
on accounting relationships and not financial relationships. In particular, the three basic elements of firm
value tend to get left out, namely, cash flow size, risk, and timing.
Because of this, financial planning models sometimes do not produce output that gives the user many
meaningful clues about what strategies will lead to increases in value. Instead, they divert the users
attention to questions concerning the association of, say, the debt-equity ratio and firm growth.
The financial model we used for the Hoffman Company was simplein fact, too simple.
Our model, like many in use today, is really an accounting statement generator at heart. Such models are
useful for pointing out inconsistencies and reminding us of financial needs, but they offer very little
guidance concerning what to do about these problems.
In closing our discussion, we should add that financial planning is an iterative process. Plans are created,
examined, and modified over and over. The final plan will be a result negotiated between all the different
parties to the process. In fact, long-term financial planning in most corporations relies on what might be
called the Procreates approach. Upper-level management has a goal in mind, and it is up to the planning
staff to rework and to ultimately deliver a feasible plan that meets that goal.
The final plan will therefore implicitly contain different goals in different areas and also satisfy many
constraints. For this reason, such a plan need not be a dispassionate assessment of what we think the future
will bring; it may instead be a means of reconciling the planned activities of different groups and a way of
setting common goals for the future.
5. FUTURE VALUE AND COMPOUNDING
There are two ways to calculate Future Value (FV):
1) For an asset with simple annual interest =Original Investment x (1+ (interest rate*number of years))
2) For an asset with interest compounded annually: = Original Investment x ((1+interest rate)^number
of years) Consider the following examples:
i. $1000 invested for five years with simple annual interest of 10% would have a future value
of $1,500.00.
ii.
$1000 invested for five years at 10%, compounded annually has a future value of
$1,610.51.
When planning investment strategy, it's useful to be able to predict what an investment is likely to be worth
in the future, taking the impact of compound interest into account. This formula allows you (or your
calculator) to do just that:
Pn = P0(1+r)n
Where,
Pn is future value of P0
P0 is original amount invested
r is the rate of interest
n is the number of compounding periods (years, months, etc.)
Note in the example below that when you increase the frequency of compounding, you also increase the
future value of your investment.
P0 = $10,000
Pn is the future value of P0
n = 10 years
r = 9%
Example 1- If interest is compounded annually, the future value (Pn) is $23,674.
2

Pn = $10,000(1 + .09)10 = $23,674


Example 2 - If interest is compounded monthly, the future value (Pn) is $24,514.
Pn = $10,000(1 + .09/12)120 = $24,514
6. Present value and Discounting
Present value, also called "discounted value," is the current worth of a future sum of money or stream of
cash flow given a specified rate of return. Future cash flows are discounted at the discount rate; the higher
the discount rate, the lower the present value of the future cash flows. Determining the appropriate discount
rate is the key to properly valuing future cash flows, whether they are earnings or obligations. If you
received $10,000 today, the present value would be $10,000 because present value is what your investment
gives you if you were to spend it today. If you received $10,000 in a year, the present value of the amount
would not be $10,000 because you do not have it in your hand now, in the present. To find the present
value of the $10,000 you will receive in the future, you need to pretend that the $10,000 is the total future
value of an amount that you invested today. In other words, to find the present value of the future $10,000,
we need to find out how much we would have to invest today in order to receive that $10,000 in the future.
Present value of future payment of $10,000 at end of year two:

7. Profitability Index
An index that attempts to identify the relationship between the costs and benefits of a proposed project
through the use of a ratio calculated as:

A ratio of 1.0 is logically the lowest acceptable measure on the index. Any value which is lower than 1.0
would indicate that the project's PV is less than the initial investment. As values on the profitability index
increase, so does the financial attractiveness of the proposed project.
8. Bond Valuation
Bond valuation includes calculating the present value of the bond's future interest payments, also known as
its cash flow, and the bond's value upon maturity, also known as its face value or par value. Because a
bond's par value and interest payments are fixed, an investor uses bond valuation to determine what rate of
return is required for an investment in a particular bond to be worthwhile.
Bond valuation is only one of the factors investors consider in determining whether to invest in a particular
bond. Other important considerations are: the issuing company's creditworthiness, which determines
whether a bond is investment-grade or junk; the bond's price appreciation potential, as determined by the
issuing company's growth prospects; and prevailing market interest rates and whether they are projected to
go up or down in the future.
9. Stock Valuation
The process of calculating the fair market value of a stock by using a predetermined
formulas that factors in various economic indicators. Stock valuation can be calculated using a number of
different methods. The most common methods used are
The discounted cash flow method,
The P/E method, and
The Gordon model.
Whichever method is chosen must be done accurately so that the price of stock can be valued properly.
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10. Financial Regulation


FISCAL LAWS
Income Tax Ordinance 1984
Value Added Tax Act 1991
Stamp Act 1899
Foreign Exchange Regulation Act 1947 and Guidelines
REGULATORY LAWS
Companies Act 1994
Securities and Exchange Commission Act 1993
SEC, the Institution
Securities and Exchange Ordinance 1969
Bank Company Act 1991
Financial Institutions Act 1993
Insurance Act 1938
Insurance Corporations Act 1973
Money Loan Court Act 2003
Customs Act 1969
Imports and Exports (Control) Act 1950
Dhaka Municipal Corporation Ordinance 1983
Bangladesh Standards and Testing Institution Ordinance 1985
Bangladesh Telecommunications Act 2001
Bangladesh Energy Regulatory Commission Act 2002
PROPERTY LAWS
Transfer of Property Act 1882
State Acquisition and Tenancy Act 1950
Registration Act 1908
Patent and Design Act 1911
Trade Marks Act 1940
Copyright Act 2000
ENVIRONMENTAL LAWS
Environmental Policy 1992
Environmental Conservation Act 1995
Environmental Conservation Rules 1997
Factories Act 1965
PROCEDURAL LAWS
Code of Civil Procedure 1908
Specific Relief Act 1877
Penal Code 1860
Arbitration Act 2001
Bankruptcy Act 1997
COMMERCIAL LAWS
Negotiable Instruments Act 1881
Contract Act 1872
Foreign Private Investment (Promotion and Protection) Act 1980
Board of Investment Act 1989
Bangladesh Export Processing Zones Authority Act 1980
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