In this guide · 7 sections
- Schedule III (Division I and Division II) requires companies to disclose eleven ratios for the current and previous year, as part of the Additional Regulatory Information added by the March 2021 amendment.
- The company must explain what is in the numerator and the denominator of each ratio.
- Any change of more than 25% over the previous year needs an explanation — a reason, not a restatement of the numbers.
- Schedule III names the ratios but does not define the formulas; ICAI's Guidance Note gives commonly used bases. Use one basis, state it, and apply it to both years.
- The 25% test is on the change in the ratio itself (for example 1.50 to 1.08 is a 28% fall), not on percentage points.
Try SignReady: All eleven Schedule III ratios for both years — changes over 25% flagged.
Start freeSince the amendment to Schedule III notified on 24 March 2021 (effective for financial years beginning on or after 1 April 2021), every company preparing financial statements under Division I or Division II must disclose a set of ratios with an explanation for large changes. Several years on, the note is still one of the most frequently weak disclosures in small-company accounts: formulas that change between years, explanations that only repeat the numbers, and ratios computed on figures that do not match the statements. This guide covers what the requirement says, a workable basis for each ratio, and how to write the explanation.
What Schedule III requires
Under Additional Regulatory Information in Part I of Schedule III (Division I item (xii); Division II item (xiv) has the same requirement), the company discloses the following ratios, and must:
- explain the items included in the numerator and denominator for computing each ratio; and
- give an explanation for any change in a ratio by more than 25% as compared to the preceding year.
The requirement applies to companies whose financial statements follow Schedule III — including small companies and private companies. It does not apply to non-corporate entities (firms, LLPs, trusts), though many auditors find the ratios useful for analytical review there too. NBFCs following Division III have a different set of ratios.
The eleven ratios and a common basis
Schedule III gives the names only. The bases below follow ICAI's Guidance Note on Division I – Non Ind AS Schedule III (Revised January 2022, Annexure B); variations are acceptable if they are reasonable, stated and applied consistently.
| # | Ratio | Numerator | Denominator |
|---|---|---|---|
| (a) | Current ratio | Current assets | Current liabilities |
| (b) | Debt-equity ratio | Total debt (borrowings) | Shareholders' equity |
| (c) | Debt service coverage ratio | Earnings available for debt service: profit (the Guidance Note's formula starts from profit before tax; profit after tax is also widely used — state which) + non-cash operating expenses such as depreciation and amortisation + interest + other adjustments such as loss on sale of fixed assets | Debt service (interest and lease payments + principal repayments) |
| (d) | Return on equity | Profit after tax (less preference dividend, if any) | Average shareholders' equity |
| (e) | Inventory turnover ratio | Cost of goods sold (or sales) | Average inventory |
| (f) | Trade receivables turnover ratio | Net credit sales | Average trade receivables |
| (g) | Trade payables turnover ratio | Net credit purchases | Average trade payables |
| (h) | Net capital turnover ratio | Net sales (total sales less sales returns) | Average working capital (current assets − current liabilities) |
| (i) | Net profit ratio | Profit after tax | Net sales (total sales less sales returns) |
| (j) | Return on capital employed | Earnings before interest and tax | Capital employed (tangible net worth + total debt + deferred tax liability) |
| (k) | Return on investment | Time-weighted return: closing market value − opening market value − net cash flows into the investments during the year | Opening market value + net cash flows, each weighted for the part of the year it was invested |
For return on investment the Guidance Note recommends the time-weighted rate of return on market values, which may be given separately for each class of investment. Where opening balances or credit figures are not available, the Guidance Note allows closing balances or total sales / purchases to be used — say so in the note.
Practical choices that need a line in the note: whether "credit sales" is the whole revenue from operations (common where nearly all sales are on credit); whether averages use opening and closing balances (the previous year then needs the year before's balance sheet, or the closing balance only — say which); and whether current maturities of long-term debt are in debt service.
SignReady works out the Schedule III ratios from the draft statements for both years, shows the formula used, flags every change of more than 25% and asks for the explanation before the notes are final.
Applying the 25% test
The test compares the ratio this year with the ratio last year: (current-year ratio − previous-year ratio) ÷ previous-year ratio. A change of more than 25% either way needs an explanation.
| Ratio | Previous year | Current year | Change | Explanation needed? |
|---|---|---|---|---|
| Current ratio | 1.50 | 1.08 | −28% | Yes |
| Net profit ratio | 8.0% | 6.5% | −18.75% | No — even though it fell by 1.5 percentage points |
| Return on equity | 12.0% | 16.2% | +35% | Yes |
| Debt-equity ratio | 0.00 | 0.45 | Not measurable | Yes — explain the new borrowing |
Two traps: percentage ratios are compared as a relative change, not in percentage points; and when last year's ratio was nil or negative, the percentage cannot be computed — explain the movement anyway.
Writing an explanation that says something
The explanation should give the business reason. Compare:
| Weak | Better |
|---|---|
| "Current ratio decreased due to increase in current liabilities." | "Current ratio fell because a ₹1.2 crore term loan instalment falls due within twelve months and is shown under current liabilities, and stock was reduced at year end." |
| "Return on equity increased due to increase in profit." | "Return on equity rose because profit after tax increased by 48% on higher export volumes, while equity grew only by retained profit." |
| "Trade receivables turnover ratio changed." | "Collections slowed after two large customers moved to 90-day credit terms in the second half of the year." |
The explanation is part of the financial statements, so it must agree with the rest of them — the borrowings note, the ageing schedules, the Directors' report. It is also a natural output of the analytical review: the reasons you obtained and corroborated under SA 520 are usually the reasons the ratio moved.
Auditor's checks on the ratio note
- Recompute every ratio for both years from the final statements, using the stated basis.
- Check the previous year's ratios after any regrouping of last year's figures — a regrouping changes the comparatives.
- Confirm the same basis is used for both years and that the note states it.
- Check that every change above 25% has an explanation that agrees with other notes and with what you learned in the audit.
- Where a ratio cannot be computed (for example no investments, no borrowings), say "not applicable" with the reason rather than leaving it out.
Try SignReady: Ratio note with your explanations, inside the draft statements in Excel.
Start freeFrequently asked questions
Do small companies have to disclose the Schedule III ratios?
Yes. The requirement is part of Schedule III, which applies to companies including small companies and private companies. It does not apply to non-corporate entities such as partnership firms and LLPs.
Where are the formulas for the ratios prescribed?
Schedule III names the ratios and requires the numerator and denominator to be explained, but does not prescribe formulas. ICAI's Guidance Note on Schedule III gives commonly used bases; any reasonable basis may be used if it is stated and applied consistently to both years.
Is the 25% change measured in percentage points?
No. It is the relative change in the ratio: (this year − last year) ÷ last year. A net profit ratio moving from 8% to 6.5% is an 18.75% fall, below the 25% trigger.
What if last year's ratio was zero?
The percentage change cannot be computed, but the movement is clearly significant — give an explanation (for example, new borrowings taken this year).
Do the ratios need explaining if the change is below 25%?
No explanation is required by Schedule III, but the numerator and denominator must still be explained for every ratio.
Sources
- Companies Act, 2013 — Schedule III, Division I, Part I, Additional Regulatory Information, item (xii) Ratios (India Code)
- MCA — notification G.S.R. 207(E) dated 24 March 2021 amending Schedule III (effective from 1 April 2021)
- ICAI — Guidance Note on Division I – Non Ind AS Schedule III to the Companies Act, 2013 (Revised January 2022)
- ICAI — SA 520 Analytical Procedures
SignReady drafts the Schedule III statements in editable Excel, with the ratio note, the 25% flags and your explanations — then FinalCheck checks the numbers tie. First 3 finalisations free.
Version history: 4 Oct 2026 — first published.
