II. LITERATURE REVIEW Finance is the science of funds management.

The general areas of finance are business finance, personal finance, and public finance. Finance includes saving money and often includes lending money. The field of finance deals with the concepts of time, money, and risk and how they are interrelated. It also deals with how money is spent and budgeted. One aspect of finance is through individuals and business organizations, which deposit money in a bank. The bank then lends the money out to other individuals or corporations for consumption or investment, and charges interest on the loans. Loans have become increasingly packaged for resale, meaning that an investor buys the loan (debt) from a bank or directly from a corporation. Bonds are debt instruments sold to investors for organizations such as companies, governments or charities. The investor can then hold the debt and collect the interest or sell the debt on a secondary market. Banks are the main facilitators of funding through the provision of credit, although private equity, mutual funds, hedge funds, and other organizations have become important as they invest in various forms of debt. Financial assets, known as investments, are financially managed with careful attention to financial risk management to control financial risk. Financial instruments allow many forms of securitized assets to be traded on securities exchanges such as stock exchanges, including debt such as bonds as well as equity in publicly traded corporations. Central banks, such as the Federal Reserve System banks in the United States and Bank of England in the United Kingdom, are strong players in-public finance, acting as lenders of last resort as well as strong influences on monetary and credit conditions in the economy. Tracy G Herrick (1933)1 is designed to be practical and for use by persons who have business needs to understand banks. It is intended to be used as a reference on a wide range of issues that affect a bank. This gives an understanding about the practical

approach, method and techniques of the evaluation of banks. Bell and Murphy (1962)2 analysed in their report that the labour specialization in banking industry causes, to an extent, increase in labour productivity. However, the relationship between shift in technology and increasing scale was found to be statistically in the demand deposit, installment loan and business loan functions. Horvitz (1965)3 has studied in his articles `Economics of scale in Banking' the relationship between the bank size and the total operating cost as a percentage of loans and investments declined for banks with less than 5 million dollars of total deposits and remaining fairly constant for banks holding more than 5 million dollars and not more than 50 million dollars in deposit and then declines again for larger banks. Handscomble (1976)4 in his work `Banker's Management Handbook' contain a series of articles highlight some of the major trends having significant impact on systems, techniques, and sprit of management in the banking industry. Nnedu (1977)5 in his thesis on "Customer's perception of selected commercial of selected commercial Bank services" has found that (1) commercial banks are satisfying the older bank, (2) commercial banks are satisfying female customers more than the male customers, (3) Education has no significance on the perception of bank customers, and (4) Occupation status and residential location affect the perception of bank customer in varying degrees. Bire (1977)6 studied about "Customer service and systems and procedure of Bank". The study reveals several causes for the slump in the quality of customer service of the banks which has been taking place in recent years. The survey findings indicate that some of the complaints regarding the existing systems and procedures are true to the core. He further states that such systems and practices have either to be weeded out or to be placed in a specialist department with utmost care and new ideas and methods have to be introduced for the maximization of customer satisfaction.

Financial Statement Analysis Financial statement information is used by both external and internal users, including investors, creditors, managers, and executives. These users must analyze the information in order to make business decisions, so understanding financial statements is of great importance.

Definition Shilling law Gordon (1979)7 asserts that the basic building block in financial statement analysis is the ratio, a percentage or decimal relationship of one number to another. Swanson Ross (1988)8 is of the idea that, "Financial analysis is crucial to managers in order to make decisions about operating a business". A financial statement (or financial report) is a formal record of the financial activities of a business, person, or other entity. In British English-including United Kingdom company law-a financial statement is often referred to as an account, although the term financial statement is also used, particularly by accountants. Engstrom J, and Hay L (1996)9 Financial statements provide information of value to company officials as well as to various outsiders, such as investors and lenders of funds. Publicly owned companies are required to periodically publish general-purpose financial statements that include a balance sheet, an income statement, and a statement of cash flows. Some companies also issue a statement of stockholders' equity and a statement of comprehensive income, which provide additional detail on changes in the equity section of the balance sheet. Financial statements issued for external distribution are prepared according to generally accepted accounting principles (GAAP), which are the guidelines for the content and format of the statements. In the United States, the Securities and Exchange Commission (SEC) has the legal responsibility for establishing the content of financial statements, but it generally defers to an independent body, the Financial Accounting Standards Board (FASB), to determine and promote accepted principles.

For a business enterprise, all the relevant financial information, presented in a structured manner and in a fonn easy to understand, are called the financial statements. It can be classified into four. They are balance sheet, income statement, retained earnings and statement of cash flows 1. The balance sheet, also known as the statement of financial position or condition, presents the assets, liabilities, and owners' equity of the company at a specific point in time. The assets are the fin's resources, financial or nonfinancial, such as cash, receivables, inventories, properties, and equipment. The total assets equal (balance) the sources of funding for those resources: liabilities (owners' contributions and earnings from firm operations). The balance sheet is used by investors, creditors, and other decision makers to assess the overall composition of resources, the constriction of external obligations, and the firm's flexibility and ability to change to meet new requirements. Firms frequently issue a separate statement of stockholders' equity to present certainchanges in equity, rather than showing them on the face of the balance sheet. The statement of stockholders' equity itemizes the changes in equity over the period covered, including investments by owners and other capital contributions, earnings for the period, and distributions to owners of earnings (dividends) or other capital. Sometimes companies present a statement of changes in retained earnings rather than a statement of stockholders' equity. The statement of changes in retained earnings, also known as the statement of earned surplus, details only the changes in earned capital: the net income and the dividends for the period. Then the changes in contributed capital (stock issued, stock options, etc.) must be detailed on the balance sheet or in the notes to the financial statements. 2. An Income Statement, also called a Profit and Loss Statement (P&L), is a financial statement for companies that indicates how Revenue (money received from the sale of products and services before expenses are taken out, also known as the "top line") is transformed into net income (the result after all revenues and expenses have been accounted for, also known as the "bottom line"). The purpose of (external borrowings) and equity

the income statement is to show managers and investors whether the company made or lost money during the period being reported. The important thing to remember about an income statement is that it represents a period of time. This contrasts the balance sheet, which represents a single moment in time. Charitable organizations that are required to publish financial statements do not produce an income statement. Instead, they produce a similar statement that reflects funding sources compared against program expenses, administrative costs, and other operating commitments. Usefulness and limitations of income statement

Income statements should help investors and creditors determine the past performance of the enterprise, predicts future performance, and assess the capability of generating future cash flows. However, information of an income statement has several limitations: 1) Items that might be relevant but cannot be reliably measured are not reported (e.g. brand recognition and loyalty). 2) Some numbers depend on accounting methods used (e.g. using FIFO or LIFO accounting to measure inventory level). 3) Some numbers depend on judgments and estimates (e.g. depreciation expense depends on estimated useful life and salvage value).

Items on income statement

1. Operating section

Items in the operating section are (1) Revenue

Cash inflows or other enhancements of

assets of an entity during a period from delivering or producing goods, rendering services, or other activities that constitute the entity's ongoing major operations. Usually presented as sales minus sales discounts, returns, and allowances. (2)Expenses - Cash outflows or other using up of assets or incurrence of liabilities during a period from delivering or producing goods, rendering services, or carrying out other activities that constitute the entity's ongoing major operations. (3) General and administrative expenses (G & A) - represent expenses to manage the business(officer salaries, legal and professional fees, utilities, insurance, depreciation of office building and equipment, office rents, office supplies).(4) Selling expenses - represent expenses needed to sell products (e.g., sales salaries, commissions and travel expenses, advertising, freight, shipping, depreciation of sales store buildings and equipment). (5) R & D expenses - represent expenses included in research and development. (6) Depreciation - is the charge for a specific period (i.e. year, accounting period) with respect to fixed assets that have been capitalized on the balance sheet. 2. Non-operating section Items in the section are (1) other revenues or gains - revenues and gains from other than primary business activities (e.g. rent, patents). It also includes unusual gains and losses that are either unusual or infrequent, but not both (e.g. sale of securities or fixed assets). (2) Other expenses or losses - expenses or losses not related to primary business operations.

3. Irregular items They are reported separately because these way users can better predict future cash flows irregular items most likely won't happen next year. These are reported net of taxes.

Discontinued operations are the most common type of irregular items. Shifting business location, stopping production temporarily, or changes due to technological improvement do not qualify as discontinued operations. Extraordinary items are both unusual (abnormal) and infrequent, for example, unexpected natural disaster, ex]lropriation, prohibitions under new regulations. Note: natural disaster might not qualify depending on location (e.g. frost damage would not qualify in Canada but would in the tropics).

4. Earnings per share Because of its importance, earnings per share (EPS) are required to be disclosed on the face of the income statement. A company which reports any of the irregular items must also report EPS for these items either in the statement or in the notes. There are two forms of EPS reported Basic: in this case "weighted average of shares outstanding" includes only actual stocks outstanding. Diluted: in this case "weighted average of shares outstanding" is calculated as if all stock options, warrants, convertible bonds, and other securities that could be transformed into shares are transformed. This increases the number of shares and so EPS decreases. Diluted EPS is considered to be a more reliable way to measure EPS.

3. Statement of retained earnings: explains the changes in a company's retained earnings over the reporting period. 4. The statement of cash flows replaced the statement of changes in financial position in 1987 as a required financial statement for all business enterprises. The statement of cash flows presents cash receipts and payments classified by whether they stem from operating, investing, or financing activities and provides definitions of each category. Information about key investing and financing activities not resulting in cash receipts or payments in the period must be provided separately. The cash from operating activities re ported on the statement of cash flows must be reconciled to net income for the period. Because GAAP requires accrual accounting methods in preparing financial

statements, there may be a significant difference between net income and cash generated by operations. The cash-flow statement is used by creditors and investors to determine whether cash will be available to meet debt and dividend payments.

Purpose of financial statements by business entities Barry J. Epstein, Eva K. Jermakowicz(2007) 10 "The objective of financial statements is to provide information about the financial position, performance and changes in financial position of an enterprise that is useful to a wide range of users in making economic decisions." Financial statements should be understandable, relevant, reliable and comparable. Reported assets, liabilities and equity are directly related to an organization's financial position. Reported income and expenses are directly related to an organization's financial performance.

Jan R. Williams, Susan F. Haka, Mark S. Bettner, Joseph V. Carcello(2008) 11 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." Financial statements may be used by users for different purposes:

a) Owners and managers require financial statements to make important business decisions that affect its continued operations. Financial analysis is then performed on these statements to provide management with a more detailed understanding of the figures. These statements are also used as part of management's annual report to the stockholders.

b) Employees also need these reports in making collective bargaining agreements (CBA) with the management, in the case of labor unions or for individuals in discussing their compensation, promotion and rankings.

c) Prospective investors make use of financial statements to assess the viability of investing in a business. Financial analyses are often used by investors and are prepared by professionals (financial analysts), thus providing them with the basis for making investment decisions. d) Financial institutions (banks and other lending companies) use them to decide whether to grant a company with fresh working capital or extend debt securities (such as a long-term bank loan or debentures) to finance expansion and other significant expenditures. e) Government entities (tax authorities) need financial statements to ascertain the propriety and accuracy of taxes and other duties declared and paid by a company. f) Vendors who extend credit to a business require financial statements to assess the creditworthiness of the business. g) Media and the general public are also interested in financial statements for a variety of reasons.

Types of financial analysis

Cleverly WO(1995)12 Financial analysis can be classified into different categories depending upon (1) the material used, and (2) the modus operandi of analysis

1. On the basis of material used This can be of External analysis and Internal analysis. The external analysis is done by those who are outsiders for the business. The term outsiders include investors, credit agencies, government agencies and other creditors who have no access to the internal records of the company. These persons mainly depend upon the published financial statement. Their analysis serves only a limited purpose. The position of these analysts has improved in recent times on account of increased governmental control over com

anies and governmental regulations requiring more detailed disclosure of information by the companies in their financial statements. Internal analysis is done by persons who have access to the books of account and other information related to the business. Such an analysis can, therefore, be done by executives and employees of the organization or by officers appointed for this purpose by the government or the Court under powers vested in them. The analysis done depending upon the objectives to be achieved through this analysis

2. On the basis of modus operandi This can be classified into Horizontal analysis and Vertical analysis. Horizontal analysis is the 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. 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.

Parties interested in financial analysis Analysis of financial statements has become very significant due to widespread interest of various parties in the financial results of a business unit. The various parties interested in the analysis of financial statements are:

1) Investors

Shareholders or proprietors of the business are interested in the well being of the

business. They like to know the earning capacity of the business and its prospects of future growth. 2) Management

The management is interested in the financial position and performance of the enterprise as a whole and of its various divisions. It helps them in preparing budgets and assessing the performance of various departmental heads. 3) Trade unions They are interested in financial statements for negotiating the wages or salaries or bonus agreement with the management.

4) Lenders Lenders to the business like debenture holders, suppliers of loans and lease are interested to know short term as well as long term solvency position of the entity.

5) Suppliers and trade creditors The suppliers and other creditors are interested to know about the solvency of the business i.e. the ability of the company to meet the debts as and when they fall due.

6) Tax authorities

Tax authorities are interested in financial statements for determining the tax liability.

7) Researchers They are interested in financial statements in undertaking research work in business affairs and practices.

8) Employees They are interested to know the growth of profit. As a result of which they can demand better remuneration and congenial working environment.

9) Government and their agencies Government and their agencies need financial information to regulate the activities of the enterprises/ industries and determine taxation policy. They suggest measures to formulate policies and regulations. 10) Stock exchange The stock exchange members take interest in financial statements for the purpose of analysis because they provide useful financial information about companies. Thus, we find that different parties have interest in financial statements for different reasons.

Limitations of financial analysis Financial analysis is a powerful mechanism which helps in ascertaining the strength and weakness in the operations and financial position of an enterprise. However, this analysis is subject to certain limitations. Most of these limitations are because of the limitations of the financial statement themselves. These limitations are as follows

1. Financial analysis is only a means Financial analysis is a means to an end and not the end itself. The analysis should be used as a starting point and the conclusion should be drawn not in isolation, but keeping in view the overall picture and the prevailing economic and political situation

2. Ignores price level changes Financial statements are normally prepared on the concept of historical costs. They do not reflect values in terms of current costs. Thus, the financial analysis based on such financial statement or accounting figures would not portray the effect of price level changes over the period

3. Financial statements are essentially interim report The profit shown by Profit and Loss account and the financial position as depicted by the Balance sheet is not exact. The exact position can be known only when the business is closed down. Again, the existence of contingent liabilities and differed revenue expenditure make them more imprecise.

4. Accounting concepts and conventions Financial statements are prepared on the basis of certain accounting concepts and conventions. On account of this reasons the financial position as disclosed by these statement may not be realistic

5. Influence of personal judgment

Many items are left to the personal judgment of the account

6. Disclose only Monetary Facts

Financial statement do not depict those facts which cannot be expressed in terms of money

Techniques of financial analysis A financial analyst can adopt one or more of the following techniques/tools of financial analysis

1. Comparative financial statement 2. Common size financial statement 3. Trend analysis 4. Fund flow analysis 5. Ratio analysis Comparative financial statement Allison (1971) 13 in his study "A comparative study of Bank performance under Financial and unit system" has found the impact of market structure on bank performance. The comparative financial statements are the statement of the financial position at different periods of time. The elements of financial position are shown in a comparative form so as to give an idea of the financial position at two or more periods. Hence comparative financial statements are those statements, which have been designed in such a way as to provide time perspective to the consideration of various element of financial position, embodied in such statements. By comparing the changes in the various items the analyst will be able to get some valuable clue as to growth and other important trends relating to the business. If two or more financial statements are available the trend can be better assessed. Both the income statement and balance sheet can be prepared in the form of Comparative financial statement a. Comparative income statement The income statement discloses net profit or net loss on account of operations. A Comparative income statement will show the absolute figures for two

or more periods, the absolute change from one period to another and, if desired, the change in terms of percentages. Since the figures of two or more periods are shown side by side, the reader can quickly ascertain whether sales have increased or decreased, whether cost of sales has increased or decreased, etc. Thus only a regarding of data included in comparative income statement will be helpful in deriving meaningful conclusions b. Comparative balance sheet Comparative balance sheet as on two or more different dates can be used for comparing assets and liabilities and finding out any increase or decrease in those items. Thus, while in a single balance sheet the emphasis is on present position, it is on change in the comparative balance sheet. Such balance sheet is very useful in studying the trends in an enterprise

Importance and uses The benefits of a comparative statement are varied for a corporation. Because of the uniform format of the statement, it is a simple process to compare the gross sales of a given product or all products of the company with the gross sales generated in a previous month, quarter, or year. Comparing generated revenue from one period to a different period can add another dimension to analyzing the effectiveness of the sales effort, as the process makes it possible to identify trends such as a drop in revenue in spite of an increase in units sold.

Along with being an excellent way to broaden the understanding of the success of the sales effort, a comparative statement can also help address changes in production costs. By comparing line items that catalogue the expense for raw materials in one quarter with another quarter where the number of units produced is similar can make it possible to spot trends in expense increases, and thus help isolate the origin of those increases. This type of data can prove helpful to allowing the company to find raw materials from another source before the increased price for materials cuts into the overall profitability of the company.

A comparative statement can be helpful for just about any organization that has to deal with finances in some manner. Even non-profit organizations can use the comparative statement method to ascertain trends in annual fund raising efforts. By making use of the comparative statement for the most recent effort and comparing the figures with those of the previous year's event, it is possible to determine where expenses increased or decreased, and provide some insight in how to plan the following year's event.

Features of comparative statement

1) A comparative statement adds meaning to the financial data.

2) It is used to effectively measure the conduct of the business activities.

3) Comparative statement analysis is used for intra firm analysis and inters firm analysis.

4) A comparative statement analysis indicates change in amount as well as change in percentage.

5) A positive change in amount and percentage indicates an increase and a negative change in amount and percentage indicates a decrease.

6) If the value in the first year is zero then change in percentage cannot be indicated. This is the limitation of comparative statement analysis. While interpreting the results qualitative inferences need to be drawn.

7) It is a popular tool useful for analysis by the financial analysts.

8) A comparative statement analysis cannot be used to compare more than two years financial data.

2. Common size financial statement They are those statements in which figures reported are converted into percentage to some common base. In analyzing the balance sheet, a statement is prepared to work out the ratio of each asset to total assets and each liability and capital to the total liability and capital. In the income statement the sales figures assumed to be 100 and all figures are expressed as percentage of sales. These statements are also known as component percentage or 100% statement because every individual item is states as a percentage of the total 100.

Features of common size statement

1) A common size statement analysis indicates the relation of each component to the whole. 2) In case of a Common Size Income statement analysis Net Sales is taken as 100% and in case of Common Size Balance Sheet analysis total funds available/total capital. employed is considered as 100%. 3) It is used for vertical financial analysis and comparison of two business enterprises or two years financial data. 4) Absolute figures from the financial statement are difficult to compare but when converted and expressed as percentage of net sales in case of income statement and in case of Balance Sheet as percentage of total net assets or total funds employed it becomes more meaningful to relate. 5) A common size analysis is a type of ratio analysis where in case of income statement sales is the denominator (base) and in case of Balance Sheet funds employed or total net assets is the denominator (base) and all items are expressed as a relation to it. 6) In case of common size statement analysis the absolute figures are converted to proportions for the purpose of inter-finn as well as intra-firm analysis.

Limitations As with financial statements in general, the interpretation of common size statements are subject to many of the limitations in the accounting data used to construct them. For example: 1. Different accounting policies may be used by different firms or within the same firm at different points in time. Adjustments should be made for such differences. 2. Different firms may use different accounting calendars, so the accounting periods may not be directly comparable. 3. Trend analysis The general tendency of a time series data to increase or decrease or stagnate during a long period of time is called the trend. Trend analysis occupies an important place in the financial analysis. The term trend refers to the general direction and shape of the time series considering a fairly long period of time. It is the result of those factors, which show persistent growth or a persistent decline in an evolutionary, continuous and irreversible fashion. The trend analysis determines the direction upward or downward and involves he computation of the percentage relationship that each item in the statement bears to the same item in base year. Saudamini Nayar (1975)14 has conducted a study on ` Rural Banks' and found that Regional Rural Banks have made creditable progress in deposit mobilization and distribution of loans. Singh (1977)15 has made a study on "performance getting for commercial banks in India." In his book he has explained the necessity of preparing a performance buget by chief executive of the bank for a target oriented future course of action. He has stated that the chief executive in head office would gauge the growth over a period of time, examine the current rate of economy and fix the targets of deposit for the next year in the light of exception about the future course of socio economic events.

Makarand(1979)16 has suggested six indicators to prepare performance index to evaluate the performance of public sector banks. The indicators suggested by him are, Branch expansion, priority sector credit, deposit mobilization, export credit, net profit to working funds and wage cost of business developments. This was called the integrated priority Index (I.P.I). He has suggested that (1) with the help of this I.P.I a comparison of interbank performance can effectively be made, (2) necessary power of granting loans should be vested with the branch manager, (3) counseling and expert advice to the priority sectors on diversified activities were essential, (4) the staff at the lower level should actively be involved along with the top level managements in the priority sector credit, and (5) the banks whose performance is below the national level average should have an eye over the liability management so that factors influencing cost of operation could be kept under control. Zahir (1980)17 has studied the "Transfer price mechanism for performance Evaluation" for commercial banks. His stuffy favors the concept of opportunity cost for determining the transfer price of bank branches which should be taken as typical profit centre's. He further suggested that the branches should be given credit at the minimum of transfer price and the excess, if any, should be transferred to the Head office account. He further recommends without sacrificing profitability objectives, other management objectives such as deposit mobilization, priority sector lending, etc, which should be given necessary weightage for a proper evaluation of branch level performance. The profit statement of branches will be more meaningful and informative only when the transfer price mechanism is applied to a selected number of different types of branches of a particular type of Nationalized Bank for evaluating branch level performance. Some secular forces of change, in which the underlying tendency is one of growth or decline, influence most of business and economic series. According to Simpson and Kafka "trend is the basic tendency of a series to growth or decline over a period of time".

Procedure for calculating trend 1. A year is taken as the base year. Generally the first year is taken as the base Year. 2. The figure of base year is taken as 100. 3. Trend percentages are calculated on the basis of the base year.

Use of trend analysis 1. The study of the data over a long period of time enables us to have a general ideal about the pattern of behavior of the phenomenon under consideration. 2. Trend analysis enables to compare two or more time series over different period of time and draw important conclusions from them. 3. By this analysis we can forecast the future behavior on the assumption that the best behavior will continue in the future also.

Features of trend analysis 1) In case of a trend analysis all the given years are arranged in an ascending order. 2) The first year is termed as the "Base year" and all figures of the base year are taken as 100%. 3) Item in the subsequent years are compared with that of the base year. 4) If the percentages in the following years is above 100% it indicates an increase over the base year and if the percentages are below 100% it indicates a decrease over the base year. 5) A trend analysis gives a better picture of the overall performance of the business. 6) A trend analysis helps in analyzing the financial performance over a period of time. 7) A trend analysis indicates in which direction a business is moving i.e. upward or downwards.

8) A trend analysis facilitates effective comparative study of the financial performance over a period of time. 9) For trend analysis at least three years financial data is essential. Broader the base the more reliable is the data and analysis.

Measurement of trend

The following four methods are generally used for the study and measurement of trend

1. 2. 3. 4.

Graphics method Method of semi average Method of moving average Method of least squares

In this study, the method of least square is used for calculating trend value.

Method of least squares The method of least squares is a standard approach to the approximate solution of over determined systems, i.e. sets of equations in which there are more equations than unknowns. "Least squares" means that the overall solution minimizes the sum of the squares of the errors made in solving every single equation. (Bretscher, Otto 1995)18 The most important application is in data fitting. The best fit in the least-squares sense minimizes the sum of squared residuals, a residual being the difference between an observed value and the value provided by a model. Least squares problems fall into two categories, linear least squares and nonlinear least squares, depending on whether or not the residuals are linear in all unknowns. The linear least-squares problem occurs in statistical regression analysis; it has a closed form solution. The non-linear problem has no closed solution and is usually solved by

iterative refinement; at each iteration the system is approximated by a linear one, thus the core calculation is similar in both cases. The least-squares method was first described by Carl Friedrich Gauss around 1794. Least squares correspond to the maximum likelihood criterion if the experimental errors have a normal distribution and can also be derived as a method of moment's estimator. The method of least squares provides a mathematical or analytical device to obtain an objective to fit in to the trend of the given time series. By using this method we get a straight-line trend for the given data. An algebraic equation is used for calculating trend values. This method then combines the advantage of graphic presentation as well as of precision. The following formula is used for calculating trend value.

Y = a+bx Where y represents the estimated value of the trend X a = y/n and b = xy/x2 Where n represent number of year under consideration.

Merits of least squares

1. It is a scientific method, which does not leave scope for different results 2. It is free from any bias. 3. It helps to forecast the trend result also. 4. This method enables to compute the trend value for the given period in the Series.

Limitations

1.

The trend can estimate a value only for immediate future and not for distant future

2.

It does not take into consideration seasonal, cyclical and other variation.

3.

It indicates the degree of increase or decrease but they cannot indicate the cause for such change.

4. Fund flow analysis It has become an important tool in the analytical kit of the financial analyst. It reveals the changes in the working capital position. It tells about the sources of supply of working capital and purpose for which it was used.

Uses of fund flow statement Fund flow statement helps the financial analyst in having a more detailed analysis and understanding of changes in the distribution of resources between two balance sheet dates. In case such a study is required regarding the future working capital position of the company, a projected fund flow statement can be prepared. The use of fund flow statement can be put as follows:

1. It explain the financial consequences of business operations

Funds flow statement provides a ready answer to many conflicting situations such as: (A). why the liquid position of the business is becoming more and more unbalanced in spite of business making more and more profit (B). how was it possible to distribute dividends n excess of current earnings or in

the presence of a net loss for the period (C). how the business could have good liquid position in spite of business making losses or acquisition of fixed assets (D). where have the profit gone 2. It answers intricate queries

The financial analyst can find out answers to a number of intricate questions (a). what is the overall creditworthiness of the enterprise (b). what are the sources of repayment of the loans taken (c). how much funds are generated through normal business operations (d). in what the way management has utilized the funds in the past and what are going to be likely uses of funds.

3. It acts as an instrument for allocation of resources A projected funds flow statements will help the analyst I finding out the management is going to allocate the scarce resources for meeting the productive requirements of business. The use of funds should be phased in such an order that the, available resources are put to the best use of enterprise. The funds should be managed in such a way that the business is in a position to make payment of interest and loan installments as per the agreed schedule.

4. It is a test as to effective or otherwise use of working capital Fund flow statement is a test of effective use of working capital by the management during a particular period. The adequacy or inadequacy of working capital will tell the financial analyst about the possible steps that the management should take for effective use of surplus working capital or make arrangement in case of inadequacy of working capital.

Limitations of fund flow statement

(A). Not a substitute for an income statement The fund flow statements simply tell about the working capital position of the business. It does not explain how much profit the business has really earned. This can be found out only by an income statement (B). Limitations of financial statement Fund flow statement is prepared on the basis of financial statement, i.e., income statement and the balance sheet for two or more periods. The financial statement are subject to several limitations such as they disclose only monetary transactions, they are based on only recorded facts and the way in which they have been recorded. (C). Misleading The fund flow statement may prove to be misleading. A heavy balance of working capital does not necessarily mean that the business has made large profit. Similarly, lower amount of working capital does not necessarily mean that the business has suffered a heavy loss.

5. Ratio analysis It is one of the important tools for analyzing the financial performance of the concern. Ratio analysis is the process of determining and presenting arithmetically the relationship between two figures or two amounts. A great number of ratios can be computed from the basic financial statements-Balance Sheet and Profit and Loss Account. A ratio is a simple arithmetic expression of the relationship of one another. Hence it is a simple arithmetical statement. Ratio analysis is a powerful tool for financial analysis. It is used as a device to analysis and interprets the financial conditions of the firms. These are widely used as they are simple to calculate and easy to understand. A

number of ratios have to be studied from appropriate data in order to determine the liquidity, profitability solvency of the firms. Nelson A, Tom& Miller Paul B (2002)19 financial ratio (or accounting ratio) is a relative magnitude of two selected numerical values taken from an enterprise's financial statements. Often used in accounting, there are many standard ratios used to try to evaluate the overall financial condition of a corporation or other organization. Financial ratios may be used by managers within a firm, by current and potential shareholders (owners) of a firm, and by a firm's creditors. Security analysts use financial ratios to compare the strengths and weaknesses in various companies. If shares in a company are traded in a financial market, the market price of the shares is used in certain financial ratios. Meaning of ratios Ratios are relationships expressed in mathematical terms between figures which are connected with each other in some manner. Obviously, no purpose will be served by comparing two sets of figures which are not at all connected with each other. Moreover, absolute figures are also unit for comparison.

Ratios can be expressed in two ways

1. Times When one value is divided by another, the unit used to express the quotient is termed as "Times" 2. Percentage If the quotient obtained is multiplied by 100, the unit of expression is termed as "Percentage"

Steps Involved In Ratio Analysis 1. Selection of relevant data from financial statement depending upon the Objective of the analysis. 2. 3. 4. Calculation of appropriate ratio from the data Comparisons of calculated ratios Interpretation of the ratio

Classification of the ratios In view of various ratios, there is much type of ratios, which can be calculated from the information given in the financial statement. The purpose of the user determines the particular ratio that might be used for financial analysis. Ratio can be classified into different categories:

1. 2. 3. 4.

Leverage ratio Liquidity ratio Activity ratio Profitability ratio

1. Leverage ratios It indicates the financial position of the concern. A firm is deemed to be financially sound if it is in a position to carry on its business smoothly by meeting all its obligations. Leverage ratio may be calculated from the balance sheet items to determine the proportion of debt in total financing. Leverage ratios are also computed from the profit and loss items by determining the extent to which operating profits are sufficient to cover the fixed charges. Following are the important ratios, which are calculated in order to judge the financial position of the concern.

a) Debt ratio Several debt ratios may be used to analyze the long-term solvency of the firm. The firm may be interested in knowing the proportion of the interest bearing debt in the capital structure. It may, therefore, compute debt ratio by dividing total debt (TD) by capital employed (CE) or net assets (CE).

Debt ratio =

Total Debt (TD) Capital Employed (CE)

b) Debt equity ratio This is also known as external internal equity ratio and is calculated to measure the relative claims of outsiders against the firm's assets. This ratio indicates the extent to which the firms depend upon outsiders of its existence. Weight George Dale (1970)20 in his thesis " The Development and Application of Demand Deposit costing " developed a model of demand deposit ratio (average balance per account) as the output variable, is subjected to regression analysis for the purpose of forecasting specific cost relationship and determining the presence of economics of scale. He proved that economic of scale were present in all the four variable and further, when the deposit ratio increased, the cost of performing each service charge function declined.

Debt Equity Ratio =

Outsiders fund Shareholders Fund Or

Debt Equity Ratio =

Total Debt Net Worth

The idle ratio is 2:1 and low debt equity is satisfactory.

C) Capital employed to net worth ratio This is another important way of expressing the basic relationship between debt and equity. Calculating the ratio of capital employed or net assets to net worth can find this out.

CE-to-NW ratio =

Capital Employed (CE) Net worth (NW)

d) Fixed asset to net worth ratio This ratio establishes relationship between fixed assets and proprietors funds. This ratio indicates the extent to which the fixed assets are financed by owner's funds.

Fixed assets to net worth ratio =

fixed asset Shareholders fund

e) Proprietary ratio This is also called proprietary ratio or net worth to total assets ratio. This ratio established the relationship between shareholders fund and total assets.

Equity Ratio

Shareholders Fund Total assets

2. Liquidity ratios

Liquidity is the ability of the firms to meet its current liabilities as they fall due. In fact analysis of liquidity needs the preparation of cash budget and fund flow statements; by liquidity ratios, by establishing a relationship between cash and other current assets to current obligations, provide a quick measure of liquidity. Since liquidity is basic to continuous operations of the firm it is necessary to determine the degree of liquidity of the firm.

a)

Current ratio

It is the relationship between current asset and current liability. It gives the analyst a general picture of the adequacy of the working capital and of the ability of the concern to meets its day-to-day obligations. It is an indicator of short-term solvency. Bankers normally impose a current ratio of 1.33.

Current Ratio

Current Asset Current Liability

b)

Quick ratio

Quick ratio established a relationship between quick or liquid assets and current liabilities. An asset is a liquid if it can be converted into cash immediately or reasonably soon without a loss of value. The quick ratio is found out by dividing quick assets by current liabilities.

Quick Ratio

Current assets-Inventories Current liabilities

C) Absolute Liquidity Ratio Absolute liquidity is represented by cash and cash items. Hence, in the computation of this ratio, only absolute liquid assets are compared with liquid liabilities. These assets normally include cash, bank, and marketable securities. The ideal value of absolute liquid ratio is 0.5:1

Absolute liquid ratio

cash+ bank + marketable securities

Current liabilities

3. Activity ratio Funds of creditors and owners are invested in various assets to generate sales and profits. The better the management of assets, the larger is the amount of sales. Activity ratios are employed to evaluate the efficiency with which the firm manages and utilizes its assets. These ratios are also called turn over ratios because they indicate the speed with which assets are being converted or turned over into sales. Activity ratios, thus, involve a relationship between sales and assets. This ratio indicates with the efficiency with which the capacity employed is rotated in the business. Higher the rate of rotation the greater will be the profitability.

a) Inventory turnover ratio Inventory turnover ratio indicates the efficiency of the firm in producing and selling its product. It is calculated by dividing the cost of goods sold by the average inventory"

Inventory turnover

Cost of goods sold Average inventory

b) Working capital turnover ratio Working capital of a concern is directly related to sales. The current assets like debtors, bills receivables and stock etc. change with increase or decrease in sales. This ratio indicates the number of times the working capital is turned over in a course of year. This ratio measures the efficiency with which WC being used by firm

WC turnover ratio

Cost of goods sold Net working capital

c) Fixed asset turnover ratio This ratio is calculated to measure the adequacy or otherwise of investment in fixed assets. This ratio is very significant for the manufacturing concern. High ratio indicates efficiency in work performance whereas low ratio indicates inadequate investment in fixed assets.

Fixed asset turnover ratio = cost of goods sold Net fixed asset d) Current asset turnover ratio This ratio is calculated to measure the relationship between cost of goods sold and average fixed asset Current asset turnover ratio = Cost of goods sold Average current asset e) Receivables Turnover Ratio Singh (1979)21 in his article "Cost of Bank Credit and prices" concluded that the high rate of interest does not necessarily increase price. In the case of inefficient companies burdened with excess borrowings the effect of rise in interest rate is somewhat significant.

RTR

Net credit sales Average net receivable

Profitability ratio Paul P Jussup (1969)22 in his book 'Innovation in Bank Management' has made a study of decisions about profitability, growth, sources of funds and resources allocation in the context of significant changes in contemporary bank management due to the increasing use of new instruments and techniques, such as equipment, leasing, credit cards, negotiable instruments, certificates, computers, management science techniques, etc. He

explains the dynamic changes in banking as well as the analytical methods capable of improving financial decisions. Keehn (1972)23 has made a study on " Market structure and Bank performance" and found that the structure on the local banking market in the city or town excreted a significant influence on the bank lending performance as measured by the ratio of loans to total assets, number of banks and the concentration of banking assets. Joaqvin (1974)24 has made an empirical study on the profitability of banks in Spain" and he concluded that the rediscount rate was positively related to profitability with the exception of local banks. The relationship between profitability and rate of growth was not consistent for Nationalized Banks. However there was a positive relationship between return on owners equity and size of the bank. Bhatia (1978)25 in his thesis on "Banking structure and performance" has made an attempt to describe and analyse the economic performance of Indian Banking System during the period of 1950-68. in his study he considered output price and profitability performance during the period. He further found that the performance of the Indian banking system has an upward trend. There were no significant profitability differences in different banking sector in India, in spite of their significant differences in the level of intermediations by various banking sectors in India during the period of study. the study suggested that, in order to improve the output performance of Indian banking system, the banking regulations in India should not emphasis direct regulations of the rate of returns and regulation of asset portfolio of banks. Ganesh (1979)26 in his article "The system of profit Monitoring in Banks" has emphasized that the effectiveness of monitoring system would depend upon profit plan, identification of profit centre, selling standards for comparison and a proper management information system. He further stated in his paper that working capital base for comparison of profitability of banks is more suitable for its total business than branch business.

Profit earning is the main objective of each business concern. Profitability is an indication of the efficiency with which operation of the firm are carried on. Poor operational performance may result in poor profit. A lower profitability may arise due to the lack of control over the expenses. The profitability ratios are calculated to ensure the operating efficiency of the company. Following are important profitability ratios. 1. 2. 3. 4. Return of Investment Return of Equity Gross profit ratio Net profit ratio

a)

Return on investment ratio

This is the most important profitability ratio. It is also known as return on shareholders fund or return on capital employed. This ratio indicates relationship between net profit after interest and tax and proprietors funds. It is expressed as a percentage. Success of an organization is measured by the size of the profit in relation to the capital employed. It is possible by the calculation of ROI ratio.

ROI

Operating profit Capital employed

Importance of ROI The main motivating force in any organization is profit making. ROI is the concept that measures the profit earned out of capital. It is a dependable measure for judging the concerns overall efficiency. The business can survive only when return on capital employed is more than the cost of capital

Limitations of ROI ROI is one of the very important measures for judging the overall financial performance of a firm. However, it suffers from certain important limitations. These limitations are as follows:

1. Manipulation possible ROI is based on earnings and investment. Both these figures can be manipulated by management by adopting varying accounting policies regarding depreciation, inventory valuation, treatment of provisions etc. The decision introspect of most of these matters is arbitrary and subject to whims of the management

2. Different bases for computation of profit and investment 3. Emphasis on short-term profits 4. Poor measure 5. Undue significance to capital resources 6. Mars initiative 7. Chance factor

b) Return on equity Common or ordinary shareholders are entitled to the residual profits. The rate of dividend is not fixed; the earnings may be distributed to shareholders or retained in the business. Nevertheless, the net profit after taxes represents their return. A return on shareholder's equity is calculated to see the profitability of owner's investment. The return on shareholder's equity is net profit after taxes divided by shareholders equity.

ROE

Profit Net worth

c) Gross profit ratio The first profitability ratio in relation to sales is the gross profit ratio. It is calculated by dividing the gross profit by sales.

Gross profit ratio

Gross Profit Sales

The gross profit ratio reflects the efficiency with which management produces each unit of product. This ratio indicates the average spread between the cost of goods sold and the sales revenue. A high gross profit ratio is a sign of good management. A low gross profit ratio may reflect higher cost of goods sold due to the irm's inability to purchase raw materials at favorable terms.

d) Net profit ratio Myer John N(2003)27 Net profit is obtained when operating expenses; interest and taxes are subtracted from the gross profit. The net profit ratio is measured by dividing profit after tax by sales.

Net Profit ratio

Profit after tax Sales

This ratio is the overall measure of the firm's ability to turn each rupee sales into net profit. This ratio also indicates the firm's capacity to withstand adverse economic conditions. e) Operating margin, Operating Income Margin, Operating profit margin or Return on sales. Nelson A. Tom & Miller Paul B (2003)28Operating income is the difference between operating revenues and operating expenses, but it is also sometimes used as a synonym for EBIT and operating profit. This is true if the firm has no non-operating income. Operating income Net sales

Advantages of Ratio analysis

The following are the main advantages of ratio analysis:

1. Ratio analysis simplifies the comprehension of financial statement. Ratio analysis simplifies the comprehension of financial statement. Ratios tell the whole story of changes in the financial conditions of the business 2. It provides the data for inter firm comparison Ratio analysis provides data for inter-firm comparison. Ratios highlight the factors associated with successful and unsuccessful firms. They also reveal strong firms and weak firms, overvalued and under valued firms 3. Makes intra-firm comparison possible Ratio analysis also makes possible comparison of the performance of the different divisions of the firms. The ratios are helpful in deciding about their efficiency or otherwise in the past and likely performance in the future. 4. Ratio analysis helps in planning and forecasting Over a period of time a firm or industry develops certain norms that may indicate future success or failure

5. Ratio analysis makes possible comparison of performance of different divisions of the firm. 6. It facilitates co-ordination and control in the business.

Limitations of the ratio analysis

1. There is no well accepted standard for all ratios. 2. Change in accounting procedure by a firm makes ratio analysis misleading. 3. The accuracy of the ratio totally depends upon the reliability of the data contained in the financial statement. 4. Financial analysis based on the accounting procedure will give misleading results.

Reference

1. Tracy G Herrick (1933) Hand Book. 2. Bell and Murphy (1962) ) "Economics of scale in Banking" 3. Horvitz (1965) "Economics of scale in Banking" 4. Handscomble (1976) in his thesis on "Customer's perception of selected commercial of selected commercial Bank services" 5. Nnedull (1977) in his thesis on "Customer's perception of selected commercial of selected commercial Bank services" 6. Bire (1977) studied about " Customer service and systems and procedure of Bank" 7. Shillinglaw Gordon (1979), Statement of Financial Accounting Standards No. 95: Statement of Cash Flows. Stamford. 8. Swanson Ross (1988), 9 is of the idea that, "Fundamental Managerial

Accounting Concepts." 3rd ed. New York. 9. Engstrom, J., and Hay, L. (1996). Essentials of Accounting for Governmental and Not-for-Profit Organizations. Chicago: Irwin. 10. Barry J. Epstein, Eva K. Jermakowicz. Interpretation and Application of International Financial Reporting Standards (2007). ISBN 9780471798231. 11. Jan R. Williams, Susan F. Haka, Mark S. Bettner, Joseph V. Carcello. Financial & Managerial Accounting (2008). ISBN 9780072996500. 12. Cleverly WO. Understanding your companie's true financial position and changing it. Financial Management Review. 1995;20(2):62-73. 13. Allison (1971) in his study " A comparative study of Bank performance under

Financial and unit system" 14. Saudamini Nayar (1975) has conducted a study on ` Rural Banks' 15. Singh (1977) has made a study on "performance getting for commercial banks

in India. 16. Makarand (1979) Financial Performance of Public sector company, Irwin. 17. Zahir (1980) has studied the "Transfer price mechanism for performance Evaluation"

18. Bretscher, Otto (1995). Linear Algebra With Applications, Saddle River NJ: Prentice Hall.

3rd ed.. Upper

19. Nelson A. Tom &Miller Paul B.,(2002)Modern Management Accounting Chapters 2& 3. 20. Weight George Dale (1970) in his thesis " The Development and Application of Demand Deposit costing " 21. Singh (1979) in his article "Cost of Bank Credit and prices" 22. Paul P Jessup (1969) " Innovation in Bank Management" 23. Keehn (1972) has made a study on " Market structure and Bank performance" 24. Joaqvin (1974) has made an "Empirical study on the Profitability of Banks in Spain" 25. Bhatia(1978) in his thesis on "Banking structure and performance" 26. Ganesh (1979) in his article "The system of profit Monitoring in Banks" 27. Myer JohnN.,(2003),Financial statement analysis, Chapters 1 to 9. 28. Nelson A., Tom & Miller Paul B.,(2003), Modern Management Accounting,