7.2.1 Financial Ratios

Question 1

The financial performance of a business can be assessed using financial ratios.

Answer 1

There are 5 types of Financial Ratios.

Question 2

ROCE (Return on Capital Employed) - Allows a business to compare operating profit with the total capital employed by the business.

Answer 2

Operating Profit ÷ Total Capital Employed x 100.

Capital Employed = Total Equity + Non-Current Liabilities.

Question 3

Current Ratio - Allows a business to explore its liquidity by comparing current assets with current liabilities.

Answer 3

Current Assets ÷ Current Liabilities.

Question 4

Gearing Calculations - Used to calculate the proportion of long-term funding which come from debt.

Answer 4

Non-Current Liabilities ÷ Capital Employed x 100.

Question 5

Payable Days - Used to calculate the time taken for a business to pay those it owes money to.

Answer 5

Payables ÷ Cost Of Sales x 365.

Question 6

Receivable Days - Used to calculate the time taken for a business to collect the money that it is owed.

Answer 6

Receivables ÷ Revenue x 365.

Question 7

Using financial ratios to assess performance has both advantages and disadvantages.

Answer 7

Advantages - Using financial ratios allows a business to compare performance across years. Using financial ratios allows a business to compare its performance to competitors but only if their information is available.

Disadvantages - Using financial ratios does not take into consideration non-financial information such as changes in the external environment.