THE ROLE OF RATIO ANALYSIS IN BUSINESS DECISIONS A CASE STUDY OF O. JACO BROS. ENT. (NIG.) LTD., ABA, ABIA
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THE ROLE OF RATIO ANALYSIS IN BUSINESS DECISIONS
A CASE STUDY OF O. JACO BROS. ENT. (NIG.) LTD., ABA,
ABIA
ABSTRACT
Accounting information provided by means of financial statements- The income
statement and the Balance Sheet are often in summarized form. Viewed on
the surface, the truths about the results and the financial position of a
business hidden in them remain veiled. To be of optimal benefit and as
well enable the users make well – informed decisions, financial statements need
to be analyzed by means of ratios. Therefore, in order to establish the
role of ratio analysis in business decisions, this research is carried out,
using O. Jaco Bros. Ent. (Nig.) LTD., Aba Abia State as the Case
study. The researcher made use of both primary and secondary sources of
data collection. However, for the former, questionnaires were
administered, whereas for the later, relevant were received. The data
Collected via the primary data sources were analyzed using simple averages and
percentages. After ratios analysis conducted on the chapter four, mode at 95
level of confidence (5% level of significance). Finally, it was
established that ratios analysis evils business decision.
TABLE OF CONTENTS
CHAPTER ONE
INTRODUCTION
1.1
Background
Information
1.2
Statement of
Problem
1.3
Objectives of the Study
1.4
Research
Question
1.5
Significance of the
Study
1.6
Scope of the
Study
1.7
Limitation of
Study
1.8
Definition of Terms used in the Study
1.9
Brief Historical Background of O. Jaco Bros.
Ent. (Nig.)
Ltd, Aba, Abia
State.
Reference
CHAPTER TWO
REVIEW
OF RELATED
LITERATURE
2.1
Introduction
2.2
Financial Statement
Analysis
2.3
Parties Interested in Financial Statement Analysis
2.4
Objectives of Financial Statement
analysis
2.5
Sources of Information for financial
Statement
Analysis
2.6 Tools
and Techniques of Financial
Statement
Analysis
2.7 Uses
and Objectives of Ratio Analysis
2.8 Types
of Ratio
Analysis
2.8.1
Univariate Ratio
Analysis
2.8.2
Multivariate Ratio
Analysis
2.9 Limitations of Ratio
Analysis
Reference
CHAPTER
THREE
RESEARCH METHODOLOGY
3.1
Introduction
3.2
Research
Design
3.3
Data Collection
Technique
3.4
Population
3.5
Sample Size and Sampling Technique
3.6
Instrument for Data Collection
3.7
Questionnaires Administration
Reference
CHAPTER
FOUR
PRESENTATION,
ANALYSIS AND INTERPRETATION OF DATA
4.1
Introduction
4.2
Data presentation and
Analysis
CHAPTER
FIVE SUMMARY, CONCLUSION AND RECOMMENDATIONS
5.1
Introduction
5.2
Summary and Discussion of Findings
5.3
Recommendations
5.4
Conclusion
Reference
BIBLIOGRAPHY
APPENDICES
Appendix
1 Research Questionnaire to the
Management and Staff of O. Jaco Bros.
Ent.
(Nig.) Ltd.,
Aba.
CHAPTER ONE
INTRODUCTION
1.1
BACKGROUND INFORMATION
The two primary objectives of every
business are profitability and solvency. Profitability is the ability of
a business to make profit, while solvency is the ability of a business to pay
debts as they come due. (Hermanson et al, 1992: 824). However, the
achievement of these objectives requires efficient management of resources of
the business through planning, budgeting, forecasting, control, and decision –
making. Also, the strengths and weakness of the business need to be
identified and necessary corrective measures applied. Interestingly,
accounting provides information that facilitates these functions.
Basically, accounting measures and communicates economic information needed for
decision –making. Thus, the American Accounting Association (in Okezie,
2002:1) defined accounting as “the process of identifying, measuring and
communicating economic information to permit informed judgments and decisions
by the information”. Statement and the Balance Sheet. The Income
Statement shows the profitability or profitability or operational result
of a business, while the balance sheet shows the solvency or financial position
of a business.
Although profiles are often used as the basis for judging the performance of a
business, such profits must be related to the various items of the financial
statements in order to be meaningful and useful for decision making.
Furthermore, owing to the summarized nature of financial statements, a lot of
truths are hidden in them. Thus, they need to the analyzed and interpreted by means
of financial ratios to enable the users understand the meaning of the absolute
amounts shown in them, and make informed business decisions.
In this regard, Essien (2006:144) observed:
Financial statements carry lots of
financial Information that are hidden in the figures. The figures in financial
statements become more useful when they are related to each other or to some
other relevant financial data. Therefore, users of financial information go a
further step to establish relationships (or ratios) among selected data in
financial statements.
According to Igben (1999:423), “Accounting {or financial} ratio is a proportion
or fraction or percentage expressing the relationship between one item in a set
financial statements and another item in the financial statements. Accounting
ratios are the most powerful of all tools used in analyzed and interpreting
financial statements”. Therefore, ratio analysis involves taking stats of
number (or items) out of financial statements and forming ratios with them, to
enhance informed judgments and decisions (Lasher, 1997:66).
MCShane et al. (2000:336) defined decision-making as “a conscious
process of making choices among one or more alternatives with the interior of
moving toward some desired state of affairs.” Therefore, business decisions can
be defined as choices relating to the allocation and/or use of business
resources to achieve business goals.
Decision-making calls information. Bittel et al. (1984:340) observed: “Managers
want information because they need to make decisions. The proper use of
information is an important part of decision-making.” Remarkably, one of the
effective ways of providing information needed for decision-making is ratio
analysis.
Yes, business dictions of make or buy, investment or divestment, expansion or
contration, capital-organization and reconstruction, and so on cannot be
properly made without the aid of financial ratios. They give cue to the
financial strengths and weaknesses of a business, and highlight aspects of a
business requiring further investigation.
Therefore, this research is carried out to show ratio analysis help managers,
shareholders, investors, creditors, and other stakeholders make informed judgments
and decisions about the past performance, present condition, and futures
potential of a business.
1.2
STATEMENT OF
PROBLEM
Financial information provided in financial statements are useful in business
decisions. However, it must be noted that financial statements are means to an
and not an end in themselves. Thus the use of financial statements in
decision-making is not always easy owing to the following problems:
1.
In view of the summarized nature of the information contained in financial
statements, they need to be analyzed and interpreted by means of financial
ratios to enable management and stakeholders understand them and make
well-informed business decisions.
2.
Many users of financial statements are not knowledgeable about accounting
ratios and how the ratios can be applied to financial statements to aid
decision-making.
3.
Despite the immense benefits of ratio analysis, there are a lot of weaknesses
or limitations associated with its use.
In view of the above
stated problems, this research is embarked upon to identify the proper use of
financial ratios, and the roles ratio analysis plays in business
decisions.
1.3
OBJECTIVES OF THE STUDY
In consideration of the problems identified above, the objective of this
research include.
1.
To show how ratio analysis facilitates proper understanding of information
contained in financial statements.
2. To show how
ratio analysis aids business decisions.
3.
To examine the techniques used in analysis financial statements.
4.
To identify the usefulness of financial ratios in measuring and predicting the
performance and financial position of a business.
5.
To unravel the obstacles to the proper use of financial ratios in business
decisions.
6.
To suggest on ways to enhance efficient use of ratio analysis in
decision-making.
1.4
RESEARCH QUESTIONS
i.
Is ratio analysis useful in evaluating and prediction the performance of a
business as well as intensifying areas that regret improvement?
ii.
Do you agree with the fact that ratio analysis facilitates proper understanding
of information contained in financial statements?
iii.
Is ratio analysis useful to management investors, shareholders and creditors in
their business divisions?
iv.
Does financial ratio helps to unravel the mass of truth hidden in financial
statements?
v.
Are there obstacles that affect the proper use of ratio analysis in business
decisions?
1.5
SIGNIFICANCE OF THE STUDY
The significance of this study is that on its completion, the following
benefits will be derived:
1.
The study will help management of O. Jaco Brros. Ent. (Nig.) Ltd, Aba and
others to know how ratio analysis can help them understand the financial
contained in financial statements and enhance their business decisions.
2.
The findings of the research and the supportive reference materials will be of
immense help to students in tertiary institutions and other researchers to
investigate further in the area of study.
3.
It is hoped that the result of the research will facilitate optimal business
decisions when the recommendations are complied with.
4.
The study will encourage businessmen, investors, managers, and government
authorities to appreciate quantitative techniques like financial ratios when
making economic and business decisions.
1.6 SCOPE
OF THE STUDY
According to Akpakpan (2005:7), “scope of the study is the limits or boundary
lines of the study. It is the areas covered by the research or the extent the
researchers would go. Limitations of the study are hindrances or obstacles
witnessed by the researcher in the course of the study. Which could influence
his conclusions.”
In view of the impossibility of covering every type of
financial statement, this study is therefore restricted to the analysis of the
income statement and the Balance Sheet by means of financial ratios. However,
other analytical techniques such as horizontal analysis, vertical analysis and
termed analysis would also be explained and illustrated.
Finally, although University Ratio Analysis is the core of the study,
nevertheless, multivariate Ratio Analysis would be partly illustrated using Du
pont Equations.
1.8
DEFINITION OF TERMS USED IN THE STUDY
Accounting:
The process of recording, summarizing, analysis and interpreting financial
(money-related) activities to permit individuals and organizations to make
informed judgments and decisions. (Dansby et al., 2000: 1033).
Balance Sheet:
A financial statement containing assets, liabilities, and owner’s equity or
capital at a particular data or at the end of a particular period, to show the
financial position of a organization. (Akpakpan, 2002:106).
Business:
An activity, enterprise or organization established to provide goods and
services at a profit, in order to satisfy human wants. (Ikon,2004:2).
Business Decision:
Choices made on matters relating to the allocation and/or use of business
resources for making, buying, selling, or supplying goods or services at a
profit.
Decision-Making:
A mental process by which an individual or group of individuals gather data and
make a choice between two or more alternative courses action. (Ayandele,
2005:3).
Financial Ratio:
A proportion, fraction, or percentage expressing the relationship between one
item ion sett of financial statements and another item in the same financial
statements. (Igben, 1999:423).
Financial
Statement:
Quantitative information on the economic activities of an organization prepared
to show the result and the financial position of the entity, often presented in
terms of Balance Sheet, Income Statement, Funds flow statement, and so on.
Income Statement:
A financial statement often referred to as the trading and profit loss account,
matching revenues against expense to show the profitability or operational
results of an enterprise over a period of time, such as a month or year.
(Hermanson et al. 1992:25).
Ratio:
A fractional relationship of one number (or itme) to another. (Dansby et al.
2000:1047).
Ratio Analysis:
A systematic review of accounting data by establishing relationships among
various figures on the financial statements which bring together the results of
the activities a business. (Omuya, 1983:430).
Role:
The degree to which somebody or something is involved in a situation or an
actively and the effect that they have on it. (Hornby et al.2000:1021).
1.9 BRIFF HISTORICAL
BACKGROUND OF O. JACO BROS. ENT. (NIG). LTD. ABA STATE
O. Jaco Bros. Ent. (Nig) Ltd, Aba, Abia Sate was established in 1982. It
started as a sole proprietorship business owned, runned, and managed by Nze
Josephat Okolocha.
The firm is a trading concern. It specialized in sale, marketing, and
distribution of various kinds of motorcycles, spare parts, and electric
generators.
Meanwhile, in line with outstanding growth witnessed by the firm in the last
couple of years, the organization is now an incorporated private limited
liability company since 1999.
At present, the company has a total asset base of over N50 million and employs
more than 30 workers. It has 6 branches. 4 in Aba, 1 in port Harcourt, and in
Ekwulobia (Anambra State).
The head office located at 59, Jubilee Road, Aba, Abia State, (which is
the center focus of this study), has 4 departments: the sales and marketing
department, the purchasing and supply department, the Administration and
personnel department, and the finance and Accounts Department.
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