Accounting Ratios Flashcards
Return on Shareholder’s Funds (ROSF)
Profit for Year (less dividends) / Ordinary Share Capital + Reserves %
What does ROSF show?
It is a measure of how well the business has used shareholder’s funds to generate profits for the company.
Return on Capital Employed (ROCE)
Operating Profit / Share Capital +Reserves + N-C Liabilities %
What does ROCE show?
It is a measure of how well the business has used the capital invested in the business to generate profits.
Operating Profit Margin
Operating Profit / Sales Revenue %
What does operating profit margin show?
It shows how well the business has converted sales revenue into operating profit.
Gross Profit Margin
Gross Profit / Sales Revenue %
List the ratios used to measure profitability.
- ROSF
- ROCE
- Operating Profit Margin
- Gross Profit Margin
List the ratios used to measure efficiency.
- Sales revenue to capital employed
- Sales revenue per employee
- Inventories turnover period
- Settlement period for trade receivables
- Settlement period for trade payables
Sales Revenue to Capital Employed
Sales Revenue / Share Capital + Reserves + N-C Liabilities
What does Sales Revenue to Capital Employed show?
It is a measure of how well the business has used capital invested in the business to generate sales revenue.
What is ROCE a combination of?
ROCE is a key measure of financial performance as it is a combination of profitability and efficiency.
Operating Profit Margin x Sales Revenue to Capital Employed
Sales Revenue per Employee
Sales Revenue / Number of Employees
What does Sales Revenue per Employee show?
It is a measure of how productive the workforce has been.
What is working capital?
Working Capital = Current Assets - Current Liabilities
The key components are inventory, receivables and payables.
Companies often fail due to running out of cash, this is normally due to poor working capital control.
Inventories Turnover Period
(Average (or year end) Inventories / Cost of Sales) x 365 days
Settlement Period for Trade Receivables
(Average (or year end) trade receivables / Credit Sales Revenue) x 365 days
Settlement Period for Trade Payables
(Average (or year end) trade payables / Credit Purchases Revenue) x 365 days
When purchases are not available then Cost of Sales is used.
List the liquidity ratios.
- Current Ratio
- Quick Ratio
Current Ratio
Current Assets / Current Liabilities
What does the Current Ratio show?
It is a measure of how well the business is able to settle its short-term obligations as they fall due for payment.
Quick Ratio
Current Assets - Prepayments - Inventory / Current Liabilities
What does the Quick Ratio show?
It is a measure of how well the business is able to settle its short term obligations ‘in and emergency’.
What is over-trading?
It is when a business is operating at a level of activity that cannot be supported by the available finance.
This usually occurs in a young/growing business, or a business with a lack of financial investment.
Where is over-trading usually reflected in?
- A lower than expected current ratio
- A lower than expected inventories turnover period
- A lower than expected settlement period for trade receivables
- A higher than expected settlement period for trade payables
List the financial gearing ratios.
- Gearing Ratio
- Interest Cover
Gearing Ratio
N-C Liabilities / Share Capital + Reserves + N-C Liabilities %
What does the Gearing Ratio show?
It is a measure of the proportion of debt (interest-bearing and fixed return obligations) in the capital structure of the business.
Interest Cover
Operating Profit / Interest Payable
What does Interest Cover show?
It is a measure of the relative ease at which the interest charge has been covered by profits available.
List the investment ratios.
- Dividend Payout Ratio
- Dividend Yield
- Earnings per Share
- Price/Earnings Ratio
These enable investors to measure the returns on their investment.
Dividend Payout Ratio
Dividends Announced / Earnings for the Year Available for Dividends %
What does the Dividend Payout Ratio show?
It shows the proportion of earnings that are paid out to shareholders.
Dividend Yield
(Dividend per Share/(1-t)) / Market Value per Share %
What does the Dividend Yield show?
It is a measure of the cash return from dividends relative to the current share price.
Earnings per Share
Earnings for the year available to ordinary shareholders / Number of ordinary shares in issue
What does Earnings per Share show?
It is a measure of the amount of profits earned for shareholders relative to the number of shares held.
Price/Earnings Ratio
Market Value per Share / Earnings per Share
What does the Price/Earnings Ratio show?
It is a measure of the amount of stock market confidence in the future earning power of a company.
List the limitations of Ratio Analysis.
- Subjectivity in accounting estimates
- Flexibility in accounting rules / policies
- Accounting information is historical
- Ratios ignore inflation
- The SoFP is only a snapshot and may not be representative
- No target values for ratios so comparable data is needed
- Ignores other non-financial factors
