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8.1 Financial Ratios
Rather than examining individual data points, it is often more illustrative to compute the ratios between various elements of the financial statements. There are a number of standardized financial ratios that are used to assess factors such as the profitability, efficiency, liquidity, growth potential, and riskiness of a company. Ratios provide useful information about an individual company and facilitate comparisons between companies of different sizes.
On a standalone basis, the financial ratio of a company conveys very little information. For instance, assume Amararaja Batteries has a profit margin of 9%, how useful do you think this information is? Well, not much, really. 9% profit margin is good, but how would I know if it is the best?
However, assume you figure out Exide Industries profit margin is 5.3%. Now, as we are comparing two similar companies, comparing the profitability makes sense. Clearly, Amararaja seems to be a more profitable company between the two. Thus, the ratio makes sense only when you compare the ratio with another company of a similar size or when you look into the financial ratio trend. This means that once the ratio is computed, the ratio must be analyzed (either by comparison or tracking the ratio's historical trend) to get the best possible inference.
Financial ratios can be 'somewhat loosely' classified into different categories, namely

Liquidity Ratio

Activity Ratios

Leverage Ratios

Profitability Ratios

Valuation Ratios
8.2 Liquidity Ratios
Liquidity ratios (also known as solvency ratios)
This ratio provide information about the company's ability to meet shortterm financial obligations. This is done by comparing a company's most liquid assets (or, those that can be easily converted to cash) and its short term liabilities. In general, the greater the coverage of liquid assets to shortterm liabilities, the better it is, since it is a clear signal that a company can pay debts that are going to become due in the near future and it can still fund its ongoing operations. On the other hand, a company with a low coverage rate should raise a red flag for the investors as it may be a sign that the company will have difficulty meeting running its operations, as well as meeting its debt obligations. The biggest difference between each ratio is the type of assets used in the calculation. While each ratio includes current assets, the more conservative ratios will exclude some current assets as they aren't as easily converted to cash.
Regardless of the quality of the product or service provided, or the longterm potential for the company, if it does not have the resources to make payments on the outstanding debts in the short term, the company's ability to continue functioning (and avoid bankruptcy) is jeopardized.
Current Ratio
The current ratio is a popular financial ratio used to test a company's liquidity (also referred to as its current or working capital position) by deriving the proportion of current assets available to cover current liabilities. The concept behind this ratio is to ascertain whether a company's shortterm assets (cash, cash equivalents, marketable securities, receivables and inventory) are readily available to pay off its shortterm liabilities. In theory, the higher the current ratio, the better.
Current Ratio= Current Assets/Current Liabilities
Lets take example of Exide Industries to understand the calculation of current Ratio:
Total current Assets of Exide industries (as can be seen above) as on 31^{st} March 2021 is 4395crs and total current liabilities is Rs.2315crs.
Current Ratio= Current Assets/Current Liabilities
= 4395/2315= 1.89x
The 'x' in the above number represents a multiple. Hence 1.89x should be read as 1.209 'times'. This essentially means that for every one rupee of current liability that Exide industries has it has current assets to the extend of 1.89x to repay the same.
Quick Ratio

A slightly more demanding measurement of liquidity is the quick ratio (also called the acid test ratio), which removes inventories from current assets. Not all companies can easily convert inventories to cash, making the current ratio an overstatement of their actual liquidity position. Thus, The quick ratio measures a company's capacity to pay its current liabilities without needing to sell its inventory or obtain additional financing. It is considered a more conservative measure than the current ratio, which includes all current assets as coverage for current liabilities. The higher the ratio result, the better a company's liquidity and financial health; the lower the ratio, the more likely the company will struggle with paying debts.
Why Is It Called The "Quick" Ratio?
The quick ratio looks at only the most liquid assets that a company has available to service shortterm debts and obligations. Liquid assets are those that can quickly and easily be converted into cash in order to pay those bills.
What Assets Are Considered The Most "Quick"?
The quickest or most liquid assets available to a company are cash and cash equivalents (such as money market investments), followed by marketable securities that can be sold in the market at a moment's notice through the firm's broker. Accounts receivable are also included, as these are the payments that are owed in the short run to the company from goods sold or services rendered that are due.
What Happens If The Quick Ratio Indicates A Firm Is Not Liquid?
In this case, a liquidity crisis can arise even at healthy companies  if circumstances arise that make it difficult to meet shortterm obligations such as repaying their loans and paying their employees or suppliers. One example of a farreaching liquidity crisis from recent history is the global credit crunch of 200708, where many companies found themselves unable to secure shortterm financing to pay their immediate obligations. If new financing cannot be found, the company may be forced to liquidate assets in a fire sale or seek bankruptcy protection.
Calculation of Quick Ratio
Quick Ratio = Cash & Equivalents+ shortterm investments+ accounts receivables/ Current Liabilities
In the above example of Exide Industries:
Quick Assets (Investments+ trade receivables+ cash & cash equivalents + Bank balance) = 882.54+887.37+82.54+8.81= 1861.26Â
Current Liabilities = 2315
So Quick Ratio= 1861.26/2315= 0.80x
Cash Ratio
The most conservative measurement of solvency is the cash ratio. This ratio is an indicator of a company's liquidity that further refines both the current ratio and the quick ratio by measuring the amount of cash; cash equivalents or invested funds there are in current assets to cover current liabilities
Cash Ratio= Cash+ Cash Equivalents+ Invested Funds / Current Liabilities
To calculate cash ratio in the above example, you will just take investment+ Cash & Cash equivalent+ bank balance to calculate the cash available,
Cash Available = 882.54+82.54+8.81=973.89
Current liabilities= 2315
So, Cash Ratio= 973.89/2315= 0.42x
If the firm's cash ratio is greater than one, there is little solvency risk since all pending liabilities can be covered by existing liquid assets. While in a difficult economic environment a high cash ratio is a strong signal of financial strength, in a robust market this high level of cash may indicate that the firm is managing its finances excessively conservatively and missing opportunities for growth.
8.3 Activity/Operating Ratios
Operating Ratios also called 'Activity ratios' or the 'Management ratios' indicate the efficiency of the company's operational activity. It is another commonly used measurements of liquidity relate to turnover, which can be thought of as the speed with which goods and payments flow into and out of the company or, alternatively, a measurement of how quickly noncash assets are converted into cash. Basically, these ratios look at how efficiently and effectively a company is using its resources to generate sales and increase shareholder value. In general, the better these ratios are, the better it is for shareholders.
Snapshot of current assets and current Liabilities of Exide Industries: 
Inventory Turnover Ratio
Inventory turnover measures how many times the inventory is depleted and restocked in the process of producing the goods sold by the firm during the period. It compares the average amount of inventory held to the total amount of raw materials consumed in the course of one period (COGS).
If a company is selling popular products, then the goods in the inventory gets cleared rapidly, and the company has to replenish the inventory time and again. This is called the 'Inventory turnover'. For example  Ribbons & Ballons is known for selling cakes. Since they are popular, they probably knows how many cakes he is likely to sell on any given day. For example, he could sell 500 cakes daily across India. This means he has to maintain an inventory of 500 cakes every day. So, in this case the rate of replenishing the inventory and the inventory turnover is quite high. This may not be true for every business.
For instance, think of a 2 wheeler manufacturer. Obviously selling 2 wheeler is not as easy as selling cakes. If the manufacturer produces 100 2W, he may have to wait for sometime before he sells these. Assume, to sell 100 2W(his inventory capacity) he will need 3 months. This means, every 3 months he turns over his inventory. Hence in a year he turns over his inventory 4 times.
Formula for Calculating Inventory Turnover:
Inventory turnover = Cost of goods sold/ Average inventory
Lets take an example to calculate inventory ratio for Exide industries:
Cost of materials consumed is Rs.6527.61 Crs and purchases of stockintrade is Rs.7.46 Crs. These are important components of Cost of Goods Sold (COGS). Additionally there are some more expenses which are direct in nature and might relate to COGS  to identify these we looked at 'Other Expenses' in extract of Note 33.
There are two expenses that are directly related to manufacturing i.e. Stores & spares consumed which is at Rs.70.68 Crs and the Power & Fuel cost which is at Rs.286.6 Crs. Hence the
Cost of Goods Sold (COGS) = Cost of materials consumed + Purchase of stock in trade + Stores & spares consumed + Power & Fuel
COGS = 6527.61+7.46+70.68+286.6 =Â Rs.6892.35 Crs
The next component we need for calculating the inventory turnover is Avg inventory for FY21 & FY20.
From the above balance sheet inventory for FY21 was 2346.19crs & for FY20 was Rs.2192.27crs avg works to be 2269.23
Inventory Turnover Ratio (COGS/Avg Inventory) = 6829.35/2269.23= 3x
This means that inventory incase of exide industries turns around 3 times a year. To understand how good or bad this number is we should compare this with competitor numbers
Days In Inventory
If we assume the inventory turnover data is calculated as a yearly figure, then by dividing it into 365 days per year we can measure how many daysâ€™ worth of production demand are stored as inventory (or equivalently, how long an average item remains in inventory). This is called the days in inventory.
Days in inventory = 365/ Inventory turnover
= 365/3= 121.66 i.e ~122 days
This means Exide Industries roughly takes about 122 days to convert its inventory into cash.
There are two similar ratios dealing with financial turnover.
Payables Turnover Ratio
This measures how long the company is taking to pay off the accounts payable (in fractions of a year), with days in accounts payable the corresponding number of days:
Payables turnover = Cost of goods sold/ Average accounts payable
Accounts payable for FY21 is Rs 1641.61crs (132.65+1508.96) & FY20 is Rs. 1030.32 (71.36+958.96) avg of this comes at Rs.1335.96crs
So Payables Turnover is = 6829.35/1335.96= 5.11x
Days in accounts payable = 365/ Payables turnover= 365/5.11= 71.4 days
This means Exide Industries roughly takes about 71 days to pay off its money to their suppliers. This essentially is the credit period that Exide industries enjoys from its suppliers
Receivables Turnover Ratio
Receivables turnover measures how long customers are taking to pay the company in fractional years and days in accounts receivable the corresponding number of days. Naturally a high number indicates that the company collects cash more frequently
Receivables turnover = Net sales/ Average receivables
From balance sheet
Trade Receivables for FY21 is Rs 887.37crs & FY20 is Rs. 815.30 avg of this comes at Rs.851.35 crs
Net sales for FY21 is 10040.84crs
Receivables Turnover Ratio = 10040.84/851.35=11.8 times
This means Exide industries receives cash from its customers roughly about 11.8 times a year
Days in accounts receivable = 365/ Receivables turnover
= 365/11.8
= 30.93 days
This means Exide Industry takes about 30 days from the time it sells its products to the time it can collect its money against the sale.
Fixed Asset Turnover Ratio
This ratio is a rough measure of the productivity of a company's fixed assets (property, plant and equipment or PP&E) with respect to generating sales. For most companies, their investment in fixed assets represents the single largest component of their total assets. This annual turnover ratio is designed to reflect a company's efficiency in managing these significant assets. Simply put, the higher the yearly turnover rate, the better it is.
Fixed Assets Turnover = Net Sales / Total Average Asset
For Exide industry total average asset would include fixed assets & the capital work in progress.
For FY21 total fixed assets= 2601.79+200.75+33.77= Rs.2836.31crs
FY20 total fixed assets= 2302.92+296.88+34.23= Rs.2634crs
Avg total fixed asset = Rs.2735.15crs
Fixed Asset Turnover = 10040.85/2735.15= 3.67x
Total Asset Turnover Ratio
The total asset turnover (TAT) ratio measures the degree to which a firm generates sales with its total asset base. Here the assets include both the fixed assets as well as current assets. A higher total asset turnover ratio compared to its historical data and competitor data means the company is using its assets well to generate more sales
Total Asset Turnover = Net Sales / Average Total Assets
For Exide Industries total assets for FY21 is Rs.9628.77 & FY20 is Rs.8242.08 avg comes to 8935.42
Net Sales is Rs.10040.85crs
Total Asset Turnover = 10040.85/8935.42
= 1.12x
Working Capital Turnover Ratio
Working capital, which measures the shortterm liquidity of the company and is equal to the difference between the current assets and current liabilities. A company must maintain an adequate buffer of working capital to guarantee that current assets are enough to cover shortterm liabilities and avoid an interruption in operations due to an inability to make payments on its obligations. This underscores the significance of "current," as it applies both to assets (they should be liquid and readily convertible into cash) and liabilities (anything that is coming due in the near term, including the current portion of longterm debt).
Working Capital = Current Assets  Current Liabilities
If the working capital is a positive number, it implies that the company has working capital surplus and can easily manage its day to day operations. However if the working capital is negative, it means the company has a working capital deficit. Usually if the company has a working capital deficit, they seek a working capital loan from their bankers.
The working capital turnover ratio is also referred to as Net sales to working capital. The working capital turnover indicates how much revenue the company generates for every unit of working capital. Suppose the ratio is 8, then it indicates that the company generates Rs.8 in revenue for every Rs.1 of working capital. Higher the number, better it is as it suggests that the company is generating better sales in comparison with the money it uses to fund the sales.
Working Capital Turnover= Net Sales/ Avg Working Capital
Lets calculate this for Exide Industries:
Working Capital for FY21= Current Assets Current Liabilities
= 4394.89crs 2314.85crs
= Rs.2080.04crs
Working Capital for FY20= Current Assets Current Liabilities
= 3339.50crs 1744.25crs
= Rs.1595.25crs
Avg. Working Capital [(2080.04+1595.25)/2] = Rs.1837.62crs
Working Capital Turnover (Net Sales/Avg. Working Capital) = 10040.84/1837.5= 5.46x
The number indicates that for every Rs.1 of working capital, the company is generating Rs.5.46 in terms of revenue.
8.4 Risk/Leverage Ratios
This set of ratios explores the impact of leverage (also known as gearing) on the risk of a company. Borrowing funds increases the firm's potential returns but also increases the riskiness of the enterprise and the potential volatility in earnings from one period to the next.
Debt/Equity Ratio
The debtequity ratio compares a company's total liabilities to its total shareholders equity. This is a measurement of how much suppliers, lenders, creditors and obligors have committed to the company versus what the shareholders have committed.
It measures the amount of the total debt with respect to the total equity capital. A value of 1 on this ratio indicates an equal amount of debt and equity capital. Higher debt to equity (more than 1) indicates higher leverage and hence one needs to be careful. Lower than 1 indicates a relatively bigger equity base with respect to the debt.
The formula to calculate Debt to Equity ratio is:
Debt Equity Ratio = [Total Debt/Total Equity]
Debt usually includes both long term & Short term debt.
Since Exide industries doesn't have a long term debt on its books. We wont be able to calculate these ratios for Exide. Thus to understand this better lets take the balance sheet of Britannia Industries:
Debt= Long term debt+ short term= 721.55+1075.70= 1797.25 crs
Total Equity= 3319.53 crs
Debt/Equity= 1797.25/3319.53= 0.54
Debt Ratio
The debt ratio compares a company's total debt to its total assets, which is used to gain a general idea as to the amount of leverage being used by a company. A low percentage means that the company is less dependent on leverage, i.e., money borrowed from and/or owed to others. The lower the percentage, the less leverage a company is using and the stronger its equity position. In general, the higher the ratio, the more risk that company is considered to have taken on.
Debt Ratio = Total Debt/Total Assets
The debt ratio gives users a quick measure of the amount of debt that the company has on its balance sheets compared to its assets. The more debt compared to assets a company has, which is signaled by a high debt ratio, the more leveraged it is and the riskier it is considered to be. Generally, large, wellestablished companies can push the liability component of their balance sheet structure to higher percentages without getting into trouble.
In case of Britannia the total debt we know is Rs.3319.53crs
Total Assets is Rs.7416.01crs
Thus Debt/Total Asset= 3319.53/7416.01= 0.44 0r 44%
This means roughly about 44% of the assets held by Britannia is financed through debt capital and therefore 56% is financed by the owners.
Financial Leverage Ratio
This ratio of the total assets to total equity. This compares the entire asset base on the left hand side of the balance sheet with only that portion of shareholders equity that belongs to the common shareholders. From the perspective of the common shareholders, the firm's financial leverage measures how much "stuff" the company owns as compared to how much money they have put in.
Financial Leverage = Total assets/ Total common equity
For Britannia Industries total common equity is Rs.3319.5crs
Thus Financial Leverage Ratio= 7416.01/3319.5= 2.23
This means Britannia Industries supports Rs.2.23 units of assets for every unit of equity. Do remember higher the number, higher is the company's leverage.
Interest Coverage Ratio
If the firm has leveraged its shareholder capital by borrowing, it must pay interest on the borrowed funds. The interest coverage ratio (also known as the times interest earned ratio) measures the firm's ability to meet existing debt payments given the current level of earnings. The relevant measure of income for calculating the interest coverage is earnings before interest and taxes (EBIT) since interest payments are themselves a taxdeductible expense.
The lower the ratio, the more the company is burdened by debt expense. When a company's interest coverage ratio is only 1.5 or lower, its ability to meet interest expenses may be questionable.
Interest Coverage Ratio = EBIT/ Interest expense
Incase of Britannia industries
EBIT= Profit before exceptional items & tax+ Finance cost â€“ Other Income
= 2379.44+97.81292.70
= Rs.2184.55crs
Interest= Rs.97.81
Interest Coverage ratio (2184.55/97.81) = 22.33
Interest coverage ratio of 22.33x suggests that for every Rupee of interest payment due, Britannia industries is generating an EBIT of 22.33times.
8.5 Profitability Ratios
Profitability ratios measure one of two characteristics of a company:

Margins: The difference between what a company spends to manufacture its products and what it makes from selling them.

Returns: The amount of money a company makes compared to its size.
1. Margins
Based on the various measures of profitability in the income statementgross profit, operating profit, and net profitwe define three progressively more conservative profitability ratios by comparing each of these to net sales:
Gross Profit Margin
It is simply the markup on the company's products, exclusive of any indirect costs of production. A company's cost of goods sold, represents the expense related to labour, raw materials and manufacturing overhead involved in its production process. This expense is deducted from the company's net sales/revenue, which results in a company's first level of profit or gross profit.
The gross profit margin is used to analyse how efficiently a company is using its raw materials, labour and manufacturingrelated fixed assets to generate profits. A higher margin percentage is a favourable profit indicator. Industry characteristics of raw material costs, particularly as these relate to the stability or lack thereof, have a major effect on a company's gross margin. Generally, management cannot exercise complete control over such costs. Companies without a production process (ex., retailers and service businesses) don't have a cost of sales exactly. In these instances, the expense is recorded as a "cost of merchandise" and a "cost of services", respectively. With this type of company, the gross profit margin does not carry the same weight as a producer type company.
Gross profit margin = Gross profit/Net sales = (Net sales  Cost of goods sold) / Net sales
In case of Exide Industries,
Net Sales= 10040.84crs
Cost of Goods Sold= Cost of material consumed+ Purchase of stock in trade+ Changes in inventory of finished goods
= 6527.61+7.46+44.44
= Rs. 6579.51
Gross Profit (10040.846579.51) = Rs.3461
Gross profit margin (3461/10040) = 34.47%
Operating Profit Margin/EBIDTA Margin
By subtracting selling, general and administrative, or operating expenses from a company's gross profit number, we get operating income. Management has much more control over operating expenses than its cost of sales outlays. Thus, investors need to scrutinize the operating profit margin carefully.
Positive and negative trends in this ratio are, for the most part, directly attributable to management decisions. A company's operating income figure is often the preferred metric (deemed to be more reliable) of investment analysts, versus its net income figure, for making intercompany comparisons and financial projections.
Operating profit margin = Operating profit/ Net sales
Operating Profit = (Net sales  COGS  SG&A expense  D&A) /Net sales
For Exide industries,
EBIDTA margin= EBIDTA/Net Sales
= 1421.02/10040.84
= 14.15%Â Â Â Â Â Â Â Â Â
This means that company has retained 14.15% of the revenue at the operating level, for its operations.
Net Profit Margin
This compares the top and bottom lines of the income statement, is the most conservative measurement of profitability:
Net Profit Margin = Net profit/ Net sales
Incase of Exide Industries
Net Profit Margin = 758.28/10040.84
= 7.55%
2. Returns
Most financial considerations boil down, in one way or another, to an assessment of the return on a particular investment, and the risks associated with achieving it. The most general definition of financial return is the return on investment (ROI) which measures the gain from an investment as a percentage of the amount invested:
Return on investment = Gain from investment/ Invested capital
While this calculation is quite straightforward for a simple product (such as a plainvanilla government bond) the estimation of the return on an equity investment is much more complicated given the idiosyncratic nature of each company and its operations. Due to the vast differences between companies in different industries, there is no single set of metrics that allows for comparison between all companies. Instead there are many different measurements of return, each of which gives a slightly different view on the company's performance. Not all metrics are relevant to all companies and within each industry, analysts will focus on those metrics that are most indicative of the actual performance of the companies in that sector. It is only through the analysis of different measures of return and their comparison with industry norms, as well as the specific considerations of the stock in question, that an accurate assessment of profitability can be made.
The other most commonly used measurements of return are as follows:
Return On Equity
This is the most relevant measure of return to the holders of common stock and one of the most important of all financial ratios. ROE measures how much the company is earning relative to the total amount of money left with it by common shareholders (either as paidin capital from previous share issuances or retained earnings from prior periods).
Return on equity = PAT/Shareholders Fund
If common equity measures all the funds given to the company to work with by its owners, then ROE measures the rate of return the management has been able to produce on those funds in the period after all costs are accounted for. The higher the ratio percentage, the more efficient management is in utilizing its equity base and the better return is to investors.
This ratio is compared with the other companies in the same industry and is also observed over time.
Lets calculate the same for Exide Industries
ROE= PAT/ Avg Equity
= 758.28/ 6594.81
= 11.5%
Return On Assets (ROA)
The ROA compares the firm's net income to its total asset base (the entire left side of the balance sheet). This ratio indicates how profitable a company is relative to its total assets. The return on assets (ROA) ratio illustrates how well management is employing the company's total assets to make a profit. The higher the return, the more efficient management is in utilizing its asset base.
Return On Assets = Net income/Average total assets
Instead of thinking in terms of assets, one can think in terms of the righthand side of the balance sheet and view this as the net income generated from all short and longterm borrowed funds as well as minority interest and preferred and common equity. This measures the firm's total ability to generate returns with the capital it has been given.
Lets calculate the ROA of Exide Industries:
ROA= PAT/Avg Total Asset
= 758.28/ Avg Total Assets
Total Asset for FY21 is Rs.7416.01crs and FY20 is Rs. 7253.34crs
Avg Total asset= Rs. 7334.67crs
ROA = 758.28/7334.67
= 10.34%
DuPoint Analysis
The DuPont ratio can be used as a compass in the process of assessing financial performance of the company by directing the analyst toward significant areas of strength and weakness evident in the financial statements. The DuPont ratio is calculated as follows:
ROE= (Net Income/Sales) * (Sales/Avg Total Asset) * (Avg Asset/Avg Equity)
The ratio provides measures in three of the four key areas of analysis, each representing a compass bearing, pointing the way to the next stage of the investigation.
If you notice the above formula, the denominator and the numerator cancel out with one another eventually leaving us with the original RoE formula which is:
RoE = Net Profit / Shareholder Equity *100
However, in decomposing the RoE formula, we gained insights into three distinct aspects of the business. Let us look into the three components of the DuPont model that makes up the RoE formula:

Net Profit Margin = Net Profits/ Net Sales*100
This is the first part of the DuPont Model, and it expresses the company's ability to generate profits. This is nothing but the PAT margin. A low Net profit margin would indicate higher costs and increased competition.

Asset Turnover = Net Sales / Average Total asset
Asset turnover ratio is an efficiency ratio that indicates how efficiently the company is using its assets to generate revenue.

Financial Leverage = Average Total Assets / Shareholders Equity
This helps us answer this question  'For every unit of shareholders equity, how many units of assets does the company have'.
As you can see, the DuPont model breaks up the RoE formula into three distinct components, with each component giving an insight into the company's operating and financial capabilities.
Return On Capital Employed (ROCE)
The capital employed by a company is everything on the right side of the balance sheet except for the current liabilities. This includes all longterm financing, minority interest, and shareholders' equity. The convention is to use the left side of the balance sheet as the reference (since the two sides must be equal) and define capital employed as:
Capital employed = Total assets  Current liabilities
The measurement of profit used in ROCE is the pretax operating profit (the EBIT) which, as observed previously, isolates revenue earned from the mix of debt and equity used to finance it.
ROCE = EBIT/ Capital employed
8.6 Valuation Ratios
Valuation ratio is conducted to decide whether the stock of a company is currently selling at attractive (cheap/undervalued), fair (rightly priced) or expensive (overvalued) valuations. It is done postfinancial analysis, to select stocks for further analysis.
Once an investor has found a financially strong company by using the parameters highlighted inÂ the financial analysis guide, she should do the valuation analysis to check whether the stock of the company is priced right.
If the shares of a company are overvalued then the investor should avoid investing in it, however good the company's financial position may be. Investing hardearned money in overvalued stocks exposes the investor to higher levels of risk where the potential of future appreciation is limited but the risk of loss of money is high. Therefore, valuation analysis becomes paramount before taking a decision to buy any stock.
Valuation analysis compares the stock market values of the stock of a company with its financial parameters. Stock market values consist of the current market price (CMP), market capitalization (MCap) etc.
Price to Sales (P/S) Ratio
The PricetoSales Ratio (P/S) measures the value of a company in relation to the total amount of annual sales it has recently generated. Often referred to as the "sales multiple", the P/S ratio is a valuation multiple based on the market value that investors place on the revenue belonging to a company.
Price/Sales Ratio= Market Capitalization/ Annual Revenue
The pricetosales ratio indicates how much investors are currently willing to pay for a rupee of sales generated by a company. This ratio tells us how much value the market places on the sales of a specific company, which is determined by the quality of revenue (i.e. customer type, recurring vs. onetime), as well as expected performance.
Higher P/S ratios can often serve as an indication that the market is currently willing to pay a premium for each rupee of sales. A low pricetosales ratio relative to industry peers could mean that the shares of the company are currently undervalued.
The standard acceptable range of the pricetosales ratio varies across industries. Hence, benchmarking the ratio must be done among similar, comparable companies. Alternatively, a ratio in excess of its peer group could indicate the target company is overvalued.
Let us calculate the same for Exide Industries. We will take up the denominator first:
Sales Per Share = Total Revenues / Total number of shares
We know from Exide Industries statement:
Total Revenue = Rs.10040.84 crs
Number of Shares = 85 Cr
Revenue per share = 10040.84 /85
Therefore the Revenue per share = Rs. 118.11
This means for every share outstanding, Exide Industries does Rs.118.11 worth of sales.
Price to Sales Ratio = 171 / 118.11
= 1.45x
P/S ratio of 1.45x times indicates that, for every Rs.1 of sales, the stock is valued Rs.1.45 times higher. Obviously, the higher the P/S ratio, the higher is the valuation of the firm. One has to compare the P/S ratio with its competitors to get a fair sense of how expensive or cheap the stock is.
Price to Book Value (P/BV) Ratio
The PricetoBook Ratio (P/B Ratio) measures the market capitalization of a company relative to its book value of equity. Widely used among the value investing crowd, the P/B ratio can be used to identify undervalued stocks in the market.
PricetoBook Ratio (P/B) Definition
Often referred to as the markettobook value ratio, the P/B ratio compares the current market capitalization (i.e. equity value) to its accounting book value.

Market Capitalization (Price):Calculated as the current share price multiplied by the total number of diluted shares outstanding

Book Value (BV):The book value is the net difference between the carrying assetvalue on the balance sheet less the company's total liabilities
In short, the market capitalization represents the pricing of a company's equity according to the market (i.e. what investors currently believe the company to be worth). The book value, on the other hand, reflects the value of the assets that a company's shareholders would receive if the company were hypothetically liquidated.
Since the book value of equity is a levered metric (postdebt), the equity value is used as the point of comparison, rather than the enterprise value, to avoid a mismatch in the represented capital provider(s).
For the most part, any financiallysound company should expect its market value to be greater than its book value since equities are priced in the open market based on the forwardlooking anticipated growth of the company.
PricetoBook Ratio (P/B) = Market Capitalization / Book Value of Equity
The norm for the P/B varies by industry, but a P/B ratio under 1.0x tends to be viewed favourably and as a potential indication that the company's shares are currently undervalued. The P/B ratio is generally more accurate for mature companies, like the P/E ratio, and is especially accurate for those that are assetheavy (e.g. manufacturing, industrials).
In addition, the P/B ratio is typically avoided for companies comprised mostly of intangible assets (e.g. software companies). In reality, very rarely is a company's book value of equity lower than its market value of equity.
If the market valuation of a company is less than its book value of equity, that means the market does not believe the company is worth the value on its accounting books.
Let us calculate the same for Exide Industries: From Exide Industries balance sheet, we know:
Share Capital = Rs.6893.51crs
Number of shares: 85crs
Hence the Book Value per share = 6893.51/85
= Rs 81.1 per share
This means if Exide Industries were to liquidate all its assets and pay off its debt, Rs.81.1 per shares is what the shareholders can expect.
Price per share is Rs.171
P/BV = 171/81.1
= 2.10
This means Exide Industries is trading over 2.10 times its book value.
Price To Earnings Ratio
The pricetoearnings ratio is a measure that reflects an organization's potential to make money. This potential is measured in terms of the value paid by equity holders for each stock unit. Thus, it indicates if a particular stock is cheaper or costlier than its competitors within the same industry. Additionally, the current pricetoearnings ratio can be compared to the company's past ratios to track its growth.
The formula for the P/E ratio involves dividing the latest closing share price by its earnings per share, with the EPS calculation consisting of the company's net income ("bottom line") divided by its total number of shares outstanding.
P/E Ratio = Share Price/Earnings Per Share
High & Low P/E Ratio  A lower P/E ratio means that companies are using their resources to produce the maximum amount of profit possible  which ultimately benefits investors. Investors are always looking for companies that increase in value due to their scrupulous use of shareholders money. A high P/E ratio could mean that a stock price is high compared to earnings and might be overvalued.
For Example for Exide Industries
PAT= Rs.758.28crs
Total Number of Shares = 85 Cr
EPS= 758.28/85= Rs.8.92
P/E= 171/8.92= 14.1x
This means investors are willing to pay 14.1 times for purchasing the equity shares of Exide Industries