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RELEVANCE OF FINANCIAL RATIO ANALYSIS IN THE APPRAISAL OF SMALL SCALE BUSINESS (CASE STUDY OF SELECTED SMALL SCALE COMPANY)

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ABSTRACT

Small and Medium-sized Enterprises (SMEs) play an important role in any economy through generation of employment, contributing to the growth of Gross Domestic Production (GDP), embarking on innovations and stimulating of other economic activities. The objective of the study was to establish the financial reporting and ratio analysis practices adopted by small and medium enterprises in Akwa Ibom State and to establish the relationship between financial reporting and analysis practices and financial performance of small and medium enterprise in Akwa Ibom.

The study adopted a descriptive cross-sectional research design. The target population comprised of 100 SMEs in Akwa Ibom. The researcher used simple random sampling to select 50 respondents. Primary data is information gathered directly from respondents and for this study the researcher used questionnaires. Quantitative data collected was analysed by the use of descriptive statistics using SPSS and presented through percentages, means, standard deviations and frequencies.

The study found that there is a strong positive relationship between financial reporting, financial analysis, financial management and management accounting and financial performance of SMEs. There is need for management of Small and medium enterprise in Akwa Ibom to enhance their financial reporting practices, financial analysis practices ,financial management practices and management accounting practices as it was found that financial reporting and analysis practices affects the financial performance of small and medium enterprises in Akwa Ibom.

CHAPTER ONE

INTRODUCTION

1.1 BACKGROUND TO STUDY

The purpose of preparing the financial statements of a company is to convey information on the overall performance and the state of affairs of such an organisation to all interested parties. Besides, users of these financial statements in such a way as to reveal the financial strengths and weaknesses of such an organisation in order to form an opinion as regard her going-concern. However, ratio analysis is one of the ways through which the financial statements could be interpreted. While ratio analysis is also a method used by financial managers and investors alike to compare a company’s financial structure, conditions and performances with standards prevailing in such industry for the purpose of high-lighting improvement or deterioration in the trend of the business performance. Lucey (1988) defined ratio analysis as the systematic products of ratios from both internal and external financial reports so as to summarize key relationships and results in order to appraise financial performance.

More so, ratio analysis could serve as a practical means of monitoring and improving performance and it could be enhanced when:

i. Ratios are prepared regularly and on a consistent basis so that trends can be highlighted and changes investigated.

ii. Ratios prepared for and individual firm can be compared with facilitated when the firm has ready access to comparative ratios prepared in a standard manner.

iii. Ratios are prepared showing the inter-locking and inter-dependent nature of the factors which contribute to financial success.

Nevertheless, ratio analysis utilizes figures that routinely appear in the financial statements for a period of several consecutive years, (that is 5years to 10years). One calculated, the ratio may be compare with external industry standards and with internal goals and budgets of the organisation in order to detect trends and estimates, improvement and stability of the measure conditions. Finally, it must be emphasized that ratios must be compared with some prevailing standards, because it cannot in itself convey any useful information.

Every firm is most concerned with its profitability. One of the most frequently used tools of financial ratio analysis is profitability ratio which is used to determine the company’s bottom line. Profitability measures are important to company managers and owner alike. If a small business has outside investors who have put their own money into the company, the primary owner certainly has to show profitability to those equity investors. Profitability ratios show a company’s overall efficiency and performance. Many researchers have studied the determinant of profitability in many ways. But none of them had studied on the determinant of profitability using financial ratio analysis. Because of this, researcher chose this research work to show how the financial ratio analysis can be used in determination of profitability in pharmaceutical industry. Nweze (2011) defines ratio analysis as financial statement analysis uses as a primary tool, ratios, which relate two figures applicable to different categories. Okwuosa (2005) sees ratio analysis is one number expressed in terms of another to show the relationship between them. He adds that in financial accounting and reporting, it is generally agreed that there are certain relationships between items shown in the profit and loss account and those in the balance sheet as well as between items in these statements. So ratios are used as a means of expressing these relationships. Ezeamama (2010) argues that ratios are most effectively used in interpretation of financial statement when compared to a standard or norm. A single ratio in itself does not indicate favourable or unfavourable condition. It has to be compared with a benchmark or standard before commenting on the ratio. Thukaram Rao (2009) states that ratio analysis is the process of determining and interpreting numerical relationship based on financial statements. It helps to summarise the large quantities of financial data and to make qualitative judgement about the firm’s financial performance. Osisioma (1996) says that analysis is the resolutions or separation of data into their elements or component parts, the tracing of facts to their source with a view to discovering the general principles underlying to individual phenomena. He continues that the analysis of financial accounts is therefore, the interpretation, amplification and translation of facts and data contained in the financial statements, the purpose being the drawing of relevant conclusions therefore, making inferences as to business operations, financial position and future prospects. Chandra (2008) adds that financial ratio analysis is a study of ratios between various items or groups of items in financial statement. Pandey (2010) sees financial analysis as a process of identifying the financial strengths and weaknesses of the firm by properly establishing relationships between the firm by properly establishing relationships between the items of the balance sheet and the profit and loss account. He adds that ratio analysis is a powerful tool of financial analysis. A ratio is used as a benchmark for evaluating the financial position and performance of a firm. So the relationship between two accounting figures, expressed mathematically, is known as a financial ratio (or simply as a ratio).

 

 

 

 

 

 

 

 

 

 

 

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