anaysing financial performance

Question 1

sources of information for financial performance

Answer 1

past financial performance

industry benchmarks

economic environment

published accounts

Question 2

profitability ratios

Answer 2

measure the amount of profit made by a firm in relation to the capital that has been invested

a low value could harm confidence of management and result in falling share value- vulnerable to takeover

Question 3

return on capital employed ( ROCE)

Answer 3

measures how effectively the capital invested in the business is being used to create profits

Question 4

formula

Answer 4

net profit before tax/ shareholders fund+ long term liabilities. OR capital employed X100

Question 5

how to improve ROCE

Answer 5

• improve operating profit e.g. cheaper suppliers, advertisment

-reduce capital employed, e.g. may back long term liabilities such as bank loan

reduce shareholders fund/; equity

Question 6

why is ROCE useful

Answer 6

evaluate overall perfomenace

provide benchmark/tarhet for projects

benchmark performance with competitors

if higher than IR investors happy receiving higher return than in bank

Question 7

reasons for low ROCE

Answer 7

low capital investment

economic downturn

advertising campaign not kicked in yet to see rising sales

Question 8

GPM and NPM expand

Answer 8

The Gross Profit Margin (GPM) is an indicator of how efficient the business is at making and selling its product.
The Net Profit Margin (NPM) is a measure of how efficient the business is overall, and how well it manages its expenses

Question 9

what is liquidity

Answer 9

ability of a business to pay back its short term debts and the availability of working capital

Question 10

why is liquidity important

Answer 10

important to have a good level of liquidity if unable to pay creditors or suppliers may not be able to trade stop raw materials , stop allowing borrowing

therefore businesses must have sufficient levels of assets to cover their liabilities, liquid assets that can be easily turned into cash

inventories and stock highly illiquid as can become obsolete or perished( removed from acid test ratio)

Question 11

why is liquidity important

Answer 11

must be analysed in context to be meaningful and can’t be used singly as can have good liquidity but not be profitable

Question 12

current ratio

Answer 12

measure of the size of a firms current assets compared to Current liabilities

ideally 1.5-2 times more current assets than current liabilities

must put figure into context : compare to previous years, competitors, industry average

ratio above 2:1 = bad, not reinvesting, not using assets efficiently

Question 13

formula current ratio

Answer 13

current assets/ current liabilities :1

Question 14

reasons for high current assets

Answer 14

• too much cash kept in bank, only earn low interest may be better reinvested

-a firm allows debtors more time to reapy- risky as may not repay

• stock levels rise perhaps recession and decrease in demand high cost for storage and security may perish or become obsolete

Question 15

acid ratio

Answer 15

exudes stock from current ratio as a way of measuring firms ability to meet short term demands for cash more reliably- stock highly illiquid as it can perish/ go obsolete

ideal= 1:1

depends on company

supermarket stock highly liquid our into cash quickly/ easily-low acid ratio

high ratio- too much working capital tied up in inventories or debtors

Question 16

what is gearing

Answer 16

measure of a firms total capital that has been financed through long term borrowing

if highly geared means they have barred heavily making them vulnerable to changes in the interest rate repay more back

low geared less than 30%
av gearing 30-50%
high gearing more than 50%

low geared, much of capital from shareholders- equity finance

although shareholders may want to take control of how businesses is managed

Question 17

formula

Answer 17

long term liabilities / capital employed X100

capital employed= long term liabilities + shareholders fund ( equity gearing ratio calculates the proportion of capital employed that is financed by long term liabilities

Question 18

high gearing

Answer 18

high gearing may to be an issue if they are able to repay their debts

if have low gearing may risk missing out on opportunities for future expansion and profits

Question 19

reasons for debt finance

Answer 19

low interest rates

quicker to get bank loan especially if need to quick respond to opportunities/ threats

already have low gearing

don’t want to loose control

Question 20

what is a budget

Answer 20

financial plan for the future

Question 21

reasons for favourable / adverse sales variances

Answer 21

favourable
- sucessful marketing
- demise of competitors
-effective bonus scheme salesman

adverse
- success competitor
ineffective advertising campaign
- logistics issue stock didn’t arrive on time

Question 22

reasons fir favourable/ adverse cost variances

Answer 22

-improved profuctivity of labour
-reduced cost imported goods strengthening £
- reduced supplier costs raw materials

adverse- strikes, bad weather farmers crops, unexpected rise price suppliers

Question 23

advantages and disadvantages variance analysis

Answer 23

Advantages of using budgets:

* Improved financial control. Part of the budgeting process is the monitoring of expenditure and revenues. Any variances need to be explained and reacted to; for example sales revenue is adverse therefore strategies can be introduced to increase sales. (credit any other use of figures) * Budgeting ensures, or should ensure, that limited resources are used effectively. The budgeting process allocates resources to where they are most likely to help achieve the restaurants objectives. * Budgeting can motivate managers. When managers at all levels are involved in the budgeting process they will have a commitment to ensuring that budgets are met. * Budgeting can improve communication systems within the organisation. The budgeting process itself will involve communication both up and down the hierarchy. This will help to establish formal methods of communication, which can be used for purposes other than setting and administering budgets. Used by investors to assess potential investment/return on investment. Disadvantages of using budgets: * The restaurant manager is excluded from the budgeting process therefore s/he may not be committed to the budgets and may feel demotivated. This could be the reason why the sales revenue variance is adverse. * The budget may be inflexible, therefore the restaurant manager may not be able to react to changes in the market or other conditions may not be met by appropriate changes in the budget. For example, new competitors have entered the market and the marketing budget may not allow for a response to this. Therefore, sales are likely to be lost. * An effective budget can only be based on good quality information.