Analytical Procedures Ratios

Question 1

Performance Ratios
Q: What is the formula for Gross Profit Margin? What does it assess?

Answer 1

GrossProfitMargin=
[GrossProfit/
Revenue ] ×100%

It assesses profitability before taking overheads into account.

Question 2

Performance Ratios
What is the formula for Operating Margin?

Answer 2

OperatingMargin=

[OperatingProfit/PBIT]
/
Revenue
​×100%

It assesses profitability after taking overheads into account.

Question 3

Performance ratios
What is the formula for Return on Capital Employed (ROCE)?

Answer 3

ROCE=
[OperatingProfit/PBIT]
/
[Equity + debt]
x 100%

It measures how effectively resources are used to generate profit. (MAKING ASSETS SWEAT?)

Question 4

Short term liquidity ratios
Current ratio

Answer 4

Current ratio =
Current assets/
current liabilities

Assess ability to pay
current liabilities from
current assets

Question 5

Short term liquidity
Quick Ratio

Answer 5

Current assets excluding inventory/
Current liabilities

Assess ability to pay
current liabilities from the
most liquid assets

Question 6

Solvency
Gearing ratio
(larger = more risky)

Answer 6

Net debt/
Equity

Assess reliance on external finance

Question 7

Solvency
Interest cover

Answer 7

Profit before interest payable/
Interest payable

Assess ability to pay interest charges

Question 8

Efficiency
Trade receivables collection period

Answer 8

{Trad receivables/
revenue} x 365

Assess the average time taken to collect cash from credit customers (in days)

Question 9

Efficiency
Inventory holding period

Answer 9

Inventory/
cost of sales] x 365

Assess the average time for which inventory us held (in days)

Question 10

Efficiency
Trade payables payment period

Answer 10

{Trade payables/purchases}
x365

ASSESS the average time taken to pay suppliers (in days) which may reflect ability to pay