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Business > 3.5 > Flashcards

3.5 Flashcards

1
Q

What is ratio analysis?

A

A quantitative management tool that compares different financial figures to examine the financial performance of a business.

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2
Q

What is the purpose of ratio analysis?

A

To assess financial position, evaluate performance, compare actual figures with budgeted figures, and aid decision-making.

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3
Q

What are profitability ratios?

A

Ratios that examine profit at a firm compared to its financials, including gross profit margin, profit margin, and return on capital employed.

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4
Q

What does a higher gross profit margin (GPM) indicate?

A

It indicates better financial performance for the firm.

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5
Q

What are the main profitability ratios?

A
  • Gross Profit Margin (GPM)
  • Profit Margin (P)
  • Return on Capital Employed (ROCE)
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6
Q

What is the limitation of profitability ratios?

A

They only apply to profit-focused firms.

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7
Q

Fill in the blank: Ratio analysis is a _______ management tool.

A

quantitative

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8
Q

What does ratio analysis help managers assess over time?

A

Financial performance.

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9
Q

What is a key benefit of comparing actual figures with budgeted figures in ratio analysis?

A

Variance analysis to improve financial management.

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10
Q

What is a strategy for improving sales according to the text?

A

Raising prices if there is high brand loyalty

This can lead to higher sales revenue.

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11
Q

What is a method for lowering prices?

A

Using marketing strategies such as special promotions and product extension strategies

These strategies can attract more customers.

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12
Q

What is one way to decrease direct costs?

A

Cutting direct material costs by using cheaper suppliers

This can have a negative impact on the quality of goods.

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13
Q

What can cutting direct labor costs lead to?

A

Resentment and demotivation among staff

Reducing the number of staff can create a negative work environment.

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14
Q

Define profit margin.

A

A ratio showing the percentage of sales revenue that turns into profit

It is calculated as Profit divided by Revenue times 100.

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15
Q

What does a high profit margin indicate?

A

Better financial health for the business

A higher profit margin suggests that the company retains more profit from its sales.

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16
Q

What can be negotiated to decrease costs?

A

Preferential payment terms with trade creditors and suppliers

This can help improve cash flow.

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17
Q

What does Return on Capital Employed (ROCE) measure?

A

Financial performance of a firm based on capital invested

It assesses how much money is made from the capital invested.

18
Q

What is the significance of a high ROCE?

A

Indicates better efficiency in generating revenue from funds

A higher ROCE is generally preferred.

19
Q

What should ROCE generally exceed?

A

The interest rate offered at commercial banks

This comparison helps assess the firm’s profitability relative to market rates.

20
Q

What do liquidity ratios measure?

A

A firm’s ability to pay its short-term liabilities

Liquidity ratios assess how easily a firm can meet its financial obligations within a year.

21
Q

What is an acceptable current ratio range?

A

1.5 - 2.0

A ratio below 1 indicates potential liquidity issues, while above 2 may suggest inefficiencies.

22
Q

What does a current ratio less than 1 indicate?

A

The firm is likely in debt

This signals that current liabilities exceed current assets.

23
Q

What are potential issues with a current ratio greater than 2?

A
  1. Too much cash in business
  2. Too many debtors
  3. Excess stock

These issues can lead to inefficiency and increased costs.

24
Q

What is an acceptable acid test ratio?

A

At least 1:1

A ratio below 1 indicates potential working capital difficulties.

25
Q

What does a high acid test ratio signify?

A

The firm is holding too much cash

This could indicate a liquidity crisis if the firm cannot invest excess cash efficiently.

26
Q

What are ways to improve the current ratio?

A
  1. Raising the value of current assets
  2. Lowering the value of current liabilities

Both strategies enhance the liquidity position of the firm.

27
Q

What risk is associated with increasing debtors?

A

Increased risk of bad debts occurring

This can negatively impact the firm’s cash flow and liquidity.

28
Q

Fill in the blank: Liquid assets are assets that can be easily converted into _______ without losing their value.

A

cash

Liquid assets are crucial for maintaining a firm’s liquidity.

29
Q

What is the primary purpose of ratio analysis?

A

To provide useful information for various stakeholders

30
Q

Who are some of the key stakeholders that use ratio analysis?

A
  • Employers/Trade union
  • Managers/Directors
  • Trade creditors
  • Shareholders
  • Financers
  • Local community
31
Q

How do employers and trade unions utilize ratio analysis?

A

To know the likelihood of pay rises and job security

32
Q

What limitation does ratio analysis have regarding historical data?

A

Shows history but doesn’t indicate future financial performance

33
Q

What do managers and directors assess using ratio analysis?

A

Financial strengths and weaknesses of the firm

34
Q

How can trade creditors use ratio analysis?

A

To assess if a business has enough working capital to repay them

35
Q

What do shareholders evaluate using ratio analysis?

A

Return on investment compared to their investments

36
Q

What is a concern for financers when using ratio analysis?

A

Whether the business has enough funds to repay loans

37
Q

What role does ratio analysis play for the local community?

A

To gauge opportunities for local residents and secure sponsorship deals

38
Q

True or False: Changes in the external environment can affect the financial ratios of a firm.

A

True

39
Q

What are some qualitative factors that affect the performance of a firm?

A

Organizational objectives and external environmental changes

40
Q

Why should financial ratios be compared year to year?

A

To assess historical performance

41
Q

What is a potential ethical issue related to ratio analysis?

A

Some firms may manipulate information to appear more appealing

Business (14 decks)

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