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A2 AQA Business Studies > Financial Ratio Analysis > Flashcards

Financial Ratio Analysis Flashcards

1
Q

What is a balance sheet?

A

A snapshot of the business’ assets and its liabilities on a particulay day - usually the last day of the financial year.

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2
Q

What are a business’s assets?

A

What it owns or is owed

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3
Q

What are a business’s liablilities?

A

What the business owes

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4
Q

What is equity?

A

Another liability - its what the business owes to the owners of the business

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5
Q

What are fixed assets?

A

A company’s tangiable, non current assets that are used in its business operations e.g. buildings and equipment

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6
Q

Where are fixed assets reported?

A

In the non-current (long term) asset section of the balance sheet under the header property, plant and equipment

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7
Q

What does it mean by property, plant and equipment?

A
  • The assets the business intends to keep
  • Reflects the cost of capital expenditure
  • Not treated as a cost in the income statement
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8
Q

What does it mean by depreciation?

A

Allowance for the wearing out of a non-current asset over time

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9
Q

How is depreciation treated?

A

The cost of fixed assets wearing out

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10
Q

What are good will and intangiable assets?

A

Cannot be seen e.g. tradition meaning you put a value on the loyalty of your customers

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11
Q

What is a current asset?

A

An item on a balance sheet that is either cash, a cash equivalent or which can be converted into cash in 1 year

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12
Q

What are the 3 main examples of current assets?

A
  1. Cash - money in the bank
  2. Accounts recievable - debtors
  3. Inventory
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13
Q

Describe inventories.

A
  • Least liquid type of current asset
  • Valued at the cost they were bought (not their selling price)
  • Stock obsolescence - value should reflect what could be recovered
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14
Q

Describe trade recievables (debtors)

A
  • Amounts owed by customers buying on credit
  • Late payment is a common and increasing problem
  • Provision should be made for debtors not expected to pay
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15
Q

Describe cash and cash equivalents.

A
  • The most liquid current asset
  • Balance sheet shows cash held at end of period
  • Can be manipulated through window-dressing
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16
Q

What is a current liability?

A

An obligation that is payable within one year

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17
Q

Give 3 examples of current liabilities.

A
  • Accounts payable
  • Taxes payable
  • Bank account overdrafts
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18
Q

What are accounts payable?

A

These are trade payables (amounts owed to suppliers)

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19
Q

Is a bank overdraft short term or long term?

A

Short

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20
Q

What do short term borrowings show on a balance sheet?

A

The proportion of loans and other borrowings that have to be repaid in the next 12 months

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21
Q

What do tax liablities show?

A

Amounts owed in tax to IR&CE

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22
Q

When is corporate tax owed?

A

Estimate of tax owed on profit for the period

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23
Q

When is income tax and VAT due?

A

Balanced owed at the end of the month or quater

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24
Q

How do you work out working capital?

A

Current Assets - Current Liabilities

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25
Q

What is long term liabilities?

A

Obligations for a business that are not due in payments in the next 12 months

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26
Q

Who uses long term liabilities to assess the long term liquidity of the business?

A

Investors, creditors and lenders

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27
Q

What are non-current long term liabilities?

A

Amounts that are owed but not due to be paid in the next year

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28
Q

What is shown in the non-current long term liabilities column of the balance sheet?

A

Long term borrowings and provisions

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29
Q

What are provisions?

A

Where a business makes allowences for future costs and liabilities. This is based on the accounting concept of prejudice.

E.g. potential costs of legal or customer disputes

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30
Q

What is equity?

A

The net amount of funds invested in a business by its owners, plus any retained earnings.

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31
Q

How is equity calculated?

A

The difference between the total of all recorded assets and liabilities on the balance sheet.

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32
Q

What does equity show?

A

How much money the business owes to the owners or shareholders.

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33
Q

What is the second meaning of equity?

A

The different type of securities availible that can provide an ownership interest in a corporation

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34
Q

What is share capital?

A

Cash raised by the business from the sales of new share

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35
Q

Why does the balance sheet “balance”?

A

Every financial transaction results in an equal change in assets and liabilities

36
Q

What is an income statement?

A

A summary of a managements performance as reflected in the profitibility (or lack of it) of an organisation over a certain period.

37
Q

What is included in the income statement?

A
  • Trading
  • Operating
  • Non-operarting
  • The bottom line
38
Q

What are the 3 factors involved in the trading part of the income statement?

A
  • Revenues
  • Cost of Sales
  • Gross Profit
39
Q

What are the 2 sub sections of EBIT (earnings before interest and taxation)?

A
  1. Gross Profit
  2. Expenses
40
Q

What does operating profit indicate?

A

The businesses potential profitibility

41
Q

What does the Bottom Line refer to?

A

The net income reported at the bottom of the income statement

42
Q

What are the 5 main categories of accounting ratios?

A
  1. Liquidity ratios
  2. Profitibility ratios
  3. Financial efficiency ratios
  4. Gearing ratios
  5. Shareholders’ ratios
43
Q

What do liquidity ratios measure?

A

The solvency of the business and its ability to meet short term debts

44
Q

What do profitibility ratios measure?

A

They analyse the profit made over the last year

45
Q

What do financial efficiency ratios measure?

A

They analyse the efficiency of the business in terms of its resources in generating sales

46
Q

What do gearing ratios measure?

A

The proportion of the capital of the business which has come from external forces and must be repaid with interest

47
Q

What do shareholder ratios measure?

A

The strength of the company, its share price and its dividends

48
Q

What are the 2 main liquidity ratios?

A
  1. Current ratio
  2. Acid test (or quick ratio)
49
Q

What does the current ratio measure?

A

Compares the level of current assets to current liabilities

50
Q

What is the current ratio formula?

A

Current assets : Current liabilities

51
Q

What does the current ratio depend on?

A

The industry

52
Q

What current ratio would a company with good liquidity have?

A

2 : 1

53
Q

What does the acid ratio do?

A

Uses current assets (excluding inventory/stock) and compares them to current liabilities

54
Q

What is the acid test formula?

A

Current assets - stock : Current liabilities

55
Q

What is considered a good acid ratio?

A

1.1 : 1

56
Q

Why would traditional manufacturing industries tend to have current ratios of 2 or more?

A

They require significant working capital investment in inventory, trade, debtors and cash etc.

57
Q

Why would a current ratio lower than 1 be acceptable to a retail giant such as Tesco?

A

They’re able to negotiate long credit periods with suppliers, while offering little credit to customers - leading to high trade payables

58
Q

What does an acid ratio of 1.1 : 1 show and why is it good?

A

That the organisation has £1.10 to pay for every £1 of debt. This means that the organisation can pay all of its debts and has a 10% safety margin as well

59
Q

What does an acid ratio below 1.1 : 1 show?

A

That a firm may have some difficulties meeting short term payements.

60
Q

How do you calculate profitibility?

A

Profit / Revenue x 100

61
Q

What are the 3 main profitibility ratios?

A
  1. Gross Profit Margin
  2. Operating Profit Margin
  3. ROCE
62
Q

How do you calculate gross profit margin?

A

Gross Profit / Turnover x 100

63
Q

What does the gross profit margin ratio examine?

A

The relationship between the profits made on trading activities against the level of turnover

64
Q

How do you calculate ROCE?

A

Net Profit / Capital Employed x 100

65
Q

What makes up total capital?

A
  • Ordinary share capital
  • Preference share capital
  • Reserves
  • Debentures
  • Long term loans
66
Q

What does the ROCE ratio measure?

A

Efficiency of funds invested in the business at generating profits

67
Q

What must you do when calculating ROCE for an Ltd?

A

Ignore tax and interest charges

68
Q

How do you calculate operating profit margin?

A

Net profit / Turnover x 100

69
Q

What does a higher operating profit margin show?

A

That the firm is controlling their expenses

70
Q

What does it mean if the gross profit margin has increased but the operating profit has declined?

A

The profits made on trading are better but expenses incurred are increasing at a higher rate than profits showing the firm is being inefficient

71
Q

What are the 3 activity ratios?

A
  1. Asset turnover
  2. Debtors collection period
  3. Stock turnover
72
Q

How do you calculate asset turnover?

A

Sales / Net assets

73
Q

What does asset turnover measure?

A

Measures a businesses sales in relation to the assets it uses to generate these sales.

74
Q

What does an increasing asset turnover indicate?

A

That the firm is operating with greater efficiency

75
Q

How do you calculate debtors collection period?

A

Debtors / Credit sales x 365

76
Q

What does the debtors collection period show?

A

How long it takes the company to collect debts owed by customers

77
Q

How do you calculate stock turnover?

A

Costs of goods sold / average stock

78
Q

How do you calculate average no. days that stock is held?

A

Average stock / costs of goods sold x 365

79
Q

What does stock turnover measure?

A

The number of times in 1 year that a business turns over its stock of goods for sale. Can also establish the length of time that stock is held in the company

80
Q

How do you calculate gearing?

A

Long term liabilities

+

Preference shares

/

Total Capital employed

x 100

81
Q

What does the gearing ratio show?

A
  • The long term financial stability of an organisation.
  • How much of an organisation has been funded by debt
  • Shows how risky an investment is
82
Q

What does it mean if a company has a gearing of more than 50%?

A

The company is highly geared so has high risk (high risk = high reward)

83
Q

What are the 2 investment ratios?

A
  1. Dividend per share
  2. Dividend yield
84
Q

How do you calculate dividend per share?

A

Total dividends / No. issues shared

85
Q

How do you calculate dividend yield?

A

Dividend per share / Market share price x 100

86
Q

What causes dividend yield to fall?

A

A rising share price

87
Q

What would investors expect from the dividend yield?

A

To exceed the current rate of interest

A2 AQA Business Studies (5 decks)

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