Capital Employed/ Proprietor Fund/ Owner’s Equity/ Networth etc. similar terms

Ratio Analysis and its formulas are very important for any Accounts or Finance Student. But before plunging into the various ratios i.e. comparing of one element in terms with another, let me discuss few terms in Finance which has always kept me rolling my eyes while learning it. 

These terms seem similar with very little change or no change at all i.e. different names for one term.

Note: One more thing is that Accounting and Managerial Accounting will have little difference in the formulas and I am going to focus more on the Management Accounting. So if you find more detailed formulas elsewhere then don’t scratch your head as it is probably accountancy formulas.

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Here we go

1.     Owners’ Fund / Net Worth / Shareholders’ Fund/ Proprietor’s Fund

All of these are same. Thank God!!  It shows the value or worth of the owners or the shareholders of the company after deducting all the liabilities.

*** When we talk of TOTAL LIABILITIES it doesn’t mean the whole Liability side of Balance Sheet but it means the whole Long term and Short term Liabilities.

Formula: 

1)      Total Assets – Total Liabilities      OR

2)      (Equity+ Preference + Reserves  and Surplus) OR

3)      (Equity+ Preference + Reserves  and Surplus)- Misc/Prelim Exp

2.     Owner’s Equity / Shareholder’s Equity

It is what is available for the Equity Shareholders

 
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Shareholder’s Fund – Preference Shares – Pref Dividend

3.     Proprietary Ratio / Equity Ratio / Net Worth Ratio/ Shareholders’ Equity Ratio

This ratio shows the capital structure of the company. It is used to see how much of the Asset is contributed or invested by the capital (in percentage). Higher rate is considered risk free or better. Extreme high would also be considered inefficient usage of debt financing

Formula:

1)      (Shareholders’ Equity  / Total Assets ) x  100

2)      (Shareholders’ Equity  / (Total Assets- Intangible Asset) ) x  100

Example:  If Equity Ratio is 60% then 60% of the assets of the company is contributed by Equity rest from other capital and/or borrowed funds.

4.     Capital Employed

Capital Employed is to see how much capital is invested by the company to reap the profits or for the working of the company

Formula:

1)      Total Asset – Current Liabilities OR

2)      Shares Capital + Long Term Loans – Misc Exp OR

3)      Fixed Assets + Working capital

I hope this article helped you.  You can give your feedback and even rate the post now. Thankyou

DRISHYA.V.P

CHECK OUT THIS LINK TO LEARN THE SECRETS OF SUCCESSFUL TRADING

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How Does Net Cash Accrual impact the Working Capital?

This is a conceptual question but often people get perplexed and instead of logically thinking about the concept they try to find the formula for Net Cash Accrual. So get the concepts cleared first!

Two Accounting Method: Cash and Cash Accrual Method

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Small firms and businesses mostly follow Cash Method i.e. recording every transaction in cash when the transaction actually happens.

EXAMPLE: Anita sells a furniture in the month of March and amount received in April. In her books, she will record cash received in the month of April. It will show income in April even if no Sale happened and no income in the month of March even after the sales

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In cash method, non-cash items like Depreciation, Goodwill etc are not accounted for. Also, prepaid expenses or losses cannot be amortised over the period of time i.e. if B buys stationery worth Rs.10,000/- for the whole year or more, it will show Rs.10,000 in 1 month and not distribute the amount over different months.

On the other hand in Cash Accrual Method,

–           timely depreciation is shown

–          Prepaid expenses or losses can be amortised. Eg: Every month Rs.1000 can be shown in the expenses

–          Bills payable or receivable are shown when the credit purchase or sale happens and not wait for the actual transaction (i.e. the date of receiving or paying the amount). So if the sale happens in March, it is taxable in the previous year even if amount is received in April

So choosing either of the method will give you different profit and different presentation of your cash flow amounts.

Net Cash Accrual Method not only shows how much Sale actually happened but also the Cash in Bank, Receivables and Payables, Non-cash Items like Pre-paid Expenses (which can be monthly written off)

So over all it shows a detailed picture of Working Capital and WC will increase if all the positive balances are added.

Hope this article helped you.

-D.V.P

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Key Ratios to review a BANK

The ratios which will help you to review about a bank’s overall financial position are as follows:

1.     Credit to Deposit Ratio

This reflects the ability of the bank to make optimal use of the available resources.  How much of Loans it has given compared to the Deposit it has.

2.     Capital Adequacy Ratio

It reflects whether there is adequate capital for growth of the bank. RBI has set a minimum of 9% as the CAR.

= Capital (Tier I + Tier II) / Risk Adjusted (Weighted) Assets

3.     Non Performing Assets Ratio

It checks how much of nonperforming assets or assets which is not giving you any returns are there compared to the overall Average total assets.

= NPA/ Avg. Total Assets 

4.     Provision Coverage Ratio

It is how much of provisions have the bank made for the troubled part of its loan. If it has over protectively provided in a year then it would most probably not need to provide much in the next year.

5.     Return on Assets

This ratio lets you know how much of returns are generated for the amount of assets invested.

= Net Profit/Avg. Total Assets

D.V.P

Skeleton of Financial Decision

Any Decision making can be made effective with a thorough research and planning.  A clear set of mind for your life’s decisions and a clear set of Goals and Plans for your financial decisions whether it’s personal or corporate is required.

The basic elements in financial decisions are:

Capital Budgeting:

The biggest investment a layman does is buying a house. He’ll decide on his budget and go ahead. Similarly, when starting a business deciding on your initial investment i.e. the capital budget is very essential.  But the difference here is your business idea should be ready.  Research thoroughly; understand your potential market and target groups, your competitors, infrastructure, machineries, etc.  Be ready with the plans for every element in your business.  A clear and well planned business will help you avoid unnecessary expenses though miscellaneous expenses are always there.

In personal finance, the same procedure follows. You have your monthly income in your hand. Before the money reaches your account plan how a part of it needs to be invested. Not only will you like receiving your regular income and spend on your housing EMI’s but also you would love to see a share of it grow more, won’t you?

Capital Structure:

Now after you got your budgeting done next step is to know your investment sources.  From where to get loans, how much you got in your hand? It’s about finding the means to finance your project or business.  The key issue is how much should be your own or owners’ investment and how much should be the borrowings. Yes, that’s the debt equity ratio.  There should be a fine balance in this. Also after reaping out profits what should be the dividends paid to the owners for the capital that they invested. The balance should be such that your firm has flexibility, it should be able to raise capital or loan later on during the course of business and not locking the position to fund in any way.

In personal finance, a person needs to understand that his loan shouldn’t be to that extend that he is never able to repay it back or you put yourself in a position to take another loan to repay it. Your monthly or yearly income should be distributed in such a way that not only do you keep paying your expenses but also you invest a little part of it in some minimum risk based Mutual funds or Bonds, etc so that you earn more. Don’t hesitate to learn the various loan rates from different banks. Comparison of all sort of loans are available online. Choose the best one for you.

Working Capital Management:

It is the cash management for the short term or on day today basis. For firms, it deals with the current assets and liabilities i.e. the stock inventories (goods in the godown/warehouse), short-term securities, cash, etc. How much credit to be given to the clients (Debtors) and how much grace period your supplier allows you (Creditors), etc. It deals in all short term cash investment and management.

In personal Finance, it’s the liquid cash (cash in hand) and how you deal with it in your daily life. How much you lend to your friend, how much the shopkeeper gives you credit, how much of purchasing and shopping you got to do this month? Etc. As simple as that 🙂

D.V.P