Chapter 4 - Analysing Financial Performance Flashcards
What is a balance sheet?
A statement of a businesses assets (business owns) and liabilities (business owes) at a specific point of time.
Called a balance sheet because a company’s assets will always be equal to it’s current liabilities.
What are fixed (non-current) assets?
Lands, building, machinery etc that are expected to be retained in the business for more than a year, have a long term role and are used to produce the output of the business.
What are current assets?
Stock, debtors (people who owe the business money, money owed is considered an asset) and bank/cash balances. They are expected to change in value often due to the normal course of business trading.
What are current liabilities?
Bank overdrafts, and the trade creditors of the business. Depts are normally paid within a year and they arise as part of the normal course of business trading, will remain current liabilities until payed.
What are non-current liabilities?
Bank loans, mortgages that repaid over more than a year.
What are net assets?
Calculated by adding current and non-current assets together then deducting current and non-current liabilities.
What are net current assets?
The difference between current assets and current liabilities.
Shareholders funds:
Money that is invested into the business by it’s owners, also includes retained profits and reserves. Reserves and returned profits is money that is kept into the business from profits made. Reserves are not normally held as cash, are used for buying assets for the business.
How to calculate working capital?
Current assets - current liabilities
What is working capital?
Shows the financial strength of a business over the short-term.
The higher level of working capital a business has the more able it is to meet demands of creditors for payment.
Positive working capital enables a business to pay day-to-day expenses like wages and salaries
A negative working capital means that current liabilities are greater than current assets.
Different business will have different working capital needs:
Larger businesses- will need a larger amount of working capital
Retail businesses- hold high levels of stock so will need a high level of working capital
The amount of debtors and creditors the business has.
What is liquidity?
How quickly an asset can be converted into cash. Money in the bank or held in cash is the most liquid asset. Other liquid assets include stock and debtors.
Liquidity is measured of the business’s ability to pay it’s short term debts- also a meausure of the availability of working capital in a business.
Important that a business has a high level of liquidity.
2 ratios can be calculated to help a business understand it’s liquidity position:
- Current ratio
- Acid test ratio
Current Ratio:
Tells us about the relationship between current assets and liabilities.
CR= CA/ CL
1 Failure= includes stock in current assets which isn’t a very liquid asset.
Acid Test Ratio:
Excludes stock in current assets
More reliable than CR
CA- Stock / CL
Interpreting Current ratio and acid test ratio results:
Ideal ratio is 1:1. If less than 1:1 then a business hasn’t got enough current assets (minus stock) to cover it’s liabilities and it may be in difficulty.
If more than 1;1 may indicate that a business is holding a great deal of cash that could be better used by the business in investing in growth.
What is the gearing ratio?
Gearing Ratio= compares the amount of capital employed that is financed by borrowing with the total capital employed.
Capital employed is the sum of company’s share capital, reserves, and long-term liabilities. The gearing ratio calculates the proportion (%) of capital employed that is financed by long-term liabilities.
GR= long-term liabilities / cap employed x100
Cap employed= long-term liab + shareholders funds (aka equity)
