Financial analysis

Question 1

Forms of financial analysis

Answer 1

1. Horizontal
2. Vertical
3. Ratio

Question 2

Key areas of financial analysis

Answer 2

1. Profitability
2. Liquidity
3. Efficiency
4. Solvency
5. Investors’ returns

Question 3

Profitability ratio analysis: key ratios

Answer 3

1. Return on shareholders’ funds
2. Return on capital employed
3. Gross profit margin
4. Operating profit margin

Question 4

Profitability ratio analysis:
RETURN ON SHAREHOLDERS’ FUNDS =

Answer 4

= Amount of net income returned as a % of shareholders’ equity. “Return on equity”

• The higher the %, the better a company is at converting equity financing to profits.
• Shows profitability of a company + efficiency in growing these profits.

Question 5

RETURN ON SHAREHOLDERS’ FUNDS formula

Answer 5

RETURN ON SHAREHOLDERS’ FUNDS = (profit for the year / equity) x 100 %

Question 6

Profitability ratio analysis:
RETURN ON CAPITAL EMPLOYED =

Answer 6

= key ratio for providers of capital.

might change because of changes in operating profit or in capital employed

Question 7

RETURN ON CAPITAL EMPLOYED Formula

Answer 7

RETURN ON CAPITAL EMPLOYED = (Operating profit / Capital employed) x 100 %

Question 8

Capital employed =

Answer 8

Capital employed =
equity (shareholders’ funds) + long term debt (non-current liabilities)

Question 9

Profitability ratio analysis: GROSS PROFIT MARGIN =

Answer 9

= Measure of profitability in buying/producing and selling before any other expenses are considered.
- Helps to evaluate production process efficiency.

Question 10

GROSS PROFIT MARGIN Formula

Answer 10

GROSS PROFIT MARGIN =
(Gross profit / revenue) x 100 %

Question 11

Reasons for change in GROSS PROFIT MARGIN

Answer 11

1. Changes in revenue:
   
   • Sales prices
   • Sales product mix
   • Sales volume
2. Changes in cost of sales
   
   • Purchase prices
   • Inventory levels