3.5.2 Ratio Analysis Flashcards
define gearing ratios
exploration of the capital structure of the business by comparing the proportions of capital raised by debt and equity
define profitability ratios
illustration of the relative profitability of the business
define ratio analysis
a numerical approach to investigating accounts by comparing two related figures
define return on capital employed
the profit of the business as a percentage of the total amount of money used to generate it
define window dressing
the legal manipulation of accounts by a business to present a financial picture that is to its benefit
what do gearing ratios show?
the relationship between loans on which interest is paid and shareholders equity on which dividends might be paid
-compares the amount of capital raised from ordinary shareholders with that raised in loans
what is the gearing ratio formula?
g= non current liabilities/ capital employed x 100
how should the gearing ratio be interpreted?
a percentage lower than 50% - lowly geared
-loans are low relative to share capital, as more finance is provided by shareholders
a percentage higher than the 50% - highly geared
-loans are high relative to share capital as larger proportions of business finance is borrowed.
what are profitability ratios?
focus on the profit, capital employed and revenue
-look at the value of profit in relation to the value of revenue or the amount of money that had been invested in the business
whats an advantage of ROCE?
It relates profit to the size of the business
formula to calculate roce
ROCE = operating profit/ capital employed x 100
how to interpret ROCE?
the higher the ratio the better for investors as more profit has been made from the money generated for the business
-for an investment to be worthwhile, the ROCE must be far greater than the return that could be earned in a safe investment
how do we calculate capital employed?
(non current assets+ current assets) - current liabilities
total equity +non current liabilities
what does capital employed show?
The value of the money held in assets by the business minus the value of any short-term borrowed finance
Ir represents the money put to work in the business, current liabilities are a means of managing cashflow, not used for buying assets and is taken away
what does capital employed show?
The value of the money held in assets by the business minus the value of any short-term borrowed finance
- represents the money put to work in the business, current liabilities are a means of managing cashflow, not used for buying assets and is taken away
