(a) From the following information, calculate :
(i) Current ratio and
(ii) Debt to capital employed ratio
Information Rs. Total Assets 6,00,000 Non-Current Liabilities 1,40,000 Shareholders' Funds 4,20,000 Non-current Assets 5,20,000
OR
(b) From the following information, calculate :
(i) Debt-Equity Ratio and
(ii) Total Assets to Debt ratio
Information Rs. Long-term borrowings 8,00,000 Other long-term liabilities 80,000 Long term provisions 1,20,000 Share capital 24,00,000 Reserves and Surplus 6,00,000 Non-current Assets 36,00,000 Current Assets 14,00,000 Current Liabilities 10,00,000
(a) From the following information, calculate :
(i) Current ratio and
(ii) Debt to capital employed ratio
| Information | Rs. |
|---|---|
| Total Assets | 6,00,000 |
| Non-Current Liabilities | 1,40,000 |
| Shareholders' Funds | 4,20,000 |
| Non-current Assets | 5,20,000 |
OR
(b) From the following information, calculate :
(i) Debt-Equity Ratio and
(ii) Total Assets to Debt ratio
| Information | Rs. |
|---|---|
| Long-term borrowings | 8,00,000 |
| Other long-term liabilities | 80,000 |
| Long term provisions | 1,20,000 |
| Share capital | 24,00,000 |
| Reserves and Surplus | 6,00,000 |
| Non-current Assets | 36,00,000 |
| Current Assets | 14,00,000 |
| Current Liabilities | 10,00,000 |
(a) Current Ratio and Debt to Capital Employed Ratio:
| Working | Rs. |
|---|---|
| Current Assets = Total Assets − Non-current Assets = 6,00,000 − 5,20,000 | 80,000 |
| Current Liabilities = Total Assets − (Shareholders' Funds + Non-current Liabilities) = 6,00,000 − (4,20,000 + 1,40,000) | 40,000 |
| Capital Employed = Shareholders' Funds + Non-current Liabilities = 4,20,000 + 1,40,000 | 5,60,000 |
- Current Ratio = Current Assets ÷ Current Liabilities = 80,000 ÷ 40,000 = 2 : 1
- Debt to Capital Employed Ratio = Non-current Liabilities ÷ Capital Employed = 1,40,000 ÷ 5,60,000 = 0.25 : 1
OR
(b) Debt-Equity Ratio and Total Assets to Debt Ratio:
| Working | Rs. |
|---|---|
| Debt = Long-term borrowings + Long-term provisions = 8,00,000 + 1,20,000 | 9,20,000 |
| Equity = Share Capital + Reserves and Surplus = 24,00,000 + 6,00,000 | 30,00,000 |
| Total Assets = Non-current Assets + Current Assets = 36,00,000 + 14,00,000 | 50,00,000 |
- Debt-Equity Ratio = Debt ÷ Equity = 9,20,000 ÷ 30,00,000 = 0.31 : 1 (approx.)
- Total Assets to Debt Ratio = Total Assets ÷ Debt = 50,00,000 ÷ 9,20,000 = 5.43 : 1 (approx.)
Marking Scheme
- 1Part (a): 1 mark for correct Current Ratio (2:1) with working; 1 mark for correct Debt to Capital Employed Ratio (0.25:1) with working; 1 mark for correctly deriving Current Assets/Current Liabilities via the balance sheet equation; 1 mark for correct final presentation.
- 2Part (b): 1 mark for correct Debt figure (Long-term Borrowings + Long-term Provisions); 1 mark for correct Debt-Equity Ratio; 1 mark for correct Total Assets to Debt Ratio; 1 mark for clear working notes.
- 3(Only ONE of part (a) or (b) is to be attempted; total 4 marks.)
Hint
Use to find any missing figure by subtraction.
Quick Oral Answer
Current Ratio here is 2:1 and Debt to Capital Employed is 0.25:1 — both show strong short-term liquidity and a conservative capital structure; in the alternative, Debt-Equity is about 0.31:1 and Total Assets to Debt about 5.43:1, both indicating low financial risk.
Analysis & Explanation
Concept: Liquidity ratios (Current Ratio) test short-term paying capacity; solvency ratios (Debt to Capital Employed, Debt-Equity, Total Assets to Debt) test long-term financial stability and the cushion available to lenders.
(a): With Current Assets 80,000 against Current Liabilities 40,000, the firm holds Rs. 2 of current assets for every Re. 1 of current liabilities — comfortably above the traditional 2:1 benchmark. Debt to Capital Employed of 0.25:1 shows only 25% of long-term capital is funded by debt (Non-current Liabilities), the rest by equity — a conservative capital structure.
(b): 'Debt' for solvency ratios standardly means Long-term Borrowings + Long-term Provisions (Other Long-term Liabilities, being non-interest-bearing, are excluded). A Debt-Equity Ratio of 0.31:1 shows debt is well below equity — low financial risk. Total Assets to Debt of 5.43:1 shows assets amply cover the company's debt, reassuring lenders.
Exam trap: In (a), students often forget the Balance Sheet identity (Total Assets = Shareholders' Funds + Non-current Liabilities + Current Liabilities) needed to derive Current Liabilities; in (b), students commonly include 'Other long-term liabilities' in Debt, distorting the ratio.
Note on uncertainty: Debt is taken here as Long-term Borrowings + Long-term Provisions, the standard NCERT/CBSE definition; if the official marking scheme instead treats all Non-current Liabilities (including Other long-term liabilities, i.e. Rs. 10,00,000) as Debt, the ratios would instead be and .
Common Mistakes
- 1Forgetting to derive Current Liabilities/Current Assets using the balance sheet equation when they aren't directly given.
- 2Including 'Other Long-term Liabilities' in the 'Debt' figure for Debt-Equity/Total Assets to Debt ratios, when only Long-term Borrowings + Long-term Provisions should be used.
- 3Expressing ratios without the ':1' notation or with incorrect rounding, losing presentation marks.
Interesting Facts
A Current Ratio of 2:1 was historically treated as the 'ideal' benchmark by Indian banks for working capital lending decisions, though modern analysts treat it only as a rough guide.
Total Assets to Debt Ratio is the measure lenders use to judge asset cover — the higher it is, the safer a lender's long-term loan is considered.
Debt-Equity and Total Assets to Debt ratios move in opposite directions when a company raises additional debt, making them useful cross-checks of each other.
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Frequently Asked Questions
What is the standard formula for 'Debt' used in solvency ratios?
. Other Long-term Liabilities (e.g. deferred payment items) are usually excluded since they don't represent interest-bearing borrowed funds.
Why is a Current Ratio of 2:1 considered good?
It means the firm has twice as many current assets as current liabilities, giving a comfortable margin of safety to meet short-term obligations even if some current assets (like inventory) can't be quickly converted to cash.