Chapter 3.5 - Profitability and liquidity ratio analysis

Question 1

Acid test ratio/quick ratio

Answer 1

A liquidity ratio that measures a firm’s ability to meet its short-term debts. Ignores stock because not all inventories can be easily turned into cash in a short time frame

Question 2

Capital employed

Answer 2

Value of a long-term source of finance for a business
(Noncurrent liabilities + equity)

Question 3

Current ratio

Answer 3

Short-term liquidity ratio that calculates the ability of a business to meet its debts within the next twelve months

Question 4

Gross profit margin (GPM)

Answer 4

A profitability ratio that shows the value of a firm’s gross profit expressed as a percentage of its sales revenue

Question 5

Liquid assets

Answer 5

The possessions of a business that can be turned into cash quickly without affecting their value
(cash, stock, debtors)

Question 6

Liquidity crisis

Answer 6

Refers to a situation where a firm is unable to pay its short-term debts
(Current liabilities exceed current assets)

Question 7

Liquidity ratios

Answer 7

Looks at the ability of a firm to pay its short-term liabilities, comprised of the current ratio and the acid test (quick) ratio

Question 8

Profit margin

Answer 8

A ratio that shows the percentage of sales revenue that turns into profit
(proportion of sales revenue left over after all direct and indirect costs have been paid)

Question 9

Profitability ratios

Answer 9

Examine profit in relation to other figures, comprised of the gross profit margin (GPM), profit margin, and return on capital employed (ROCE) ratios

Question 10

Ratio analysis

Answer 10

A quantitative management tool that compares different financial figures to examine and judge the financial performance of a business

Question 11

Return on capital employed (ROCE)

Answer 11

A profitability ratio that measures the financial performance of a firm based on the amount of capital invested