m2- topic 3 part 2

Question 1

what do financial statements do

Answer 1

summarise the activities of the business

Question 2

what things are analysed in financial statements (4)

Answer 2

liquidity
gearing (solvency)
profitability
efficiency

Question 3

what is liquidity

Answer 3

the extent to which a business can meet its short term debt commitments

Question 4

what is working capital

Answer 4

the amount of money the business will have access to for its day to day operations

Question 5

how is working capital calculated

Answer 5

current assets - current liabilities

Question 6

what is used to asses liquidity

Answer 6

the current ratio

Question 7

what is the current ratio equation

Answer 7

current assets/current liabilities

Question 8

what is the minimum industry standard for a current ratio

Answer 8

1.5 : 1

Question 9

what is solvency

Answer 9

the ability for a business to pay off its long term debt

Question 10

what is used to assess solvency

Answer 10

gearing

Question 11

what is gearing

Answer 11

how the business is financed through debt and equity

Question 12

what is is used to measure gearing

Answer 12

debt to equity ratio (total liabilities/total equity)

Question 13

why is high gearing bad

Answer 13

business is more open to the influence of interest rates

Question 14

what is profitability

Answer 14

the earning capacity of the business

Question 15

how is profitability calculated (3)

Answer 15

gross profit ratio
net profit ratio
return on equity ratio

Question 16

what is the equation for the gross profit ratio

Answer 16

gross profit/sales

Question 17

what is the equation for the net profit ratio

Answer 17

net profit / sales

Question 18

what does return on equity show

Answer 18

how effective funds contributed by the owner are being generated into profits

Question 19

what is the equation for the return on equity ratio

Answer 19

net profit/total equity

Question 20

what form is gross profit, net profit and return on equity ratios calculated in

Answer 20

as a percentage

Question 21

is it better to have a higher or lower gross profit, net profit and return on equity ratio

Answer 21

higher

Question 22

what is efficiency

Answer 22

the ability of the business to use resources effectively

Question 23

how is efficiency calculated (2)

Answer 23

expense ratio
accounts receivable turnover ratio

Question 24

what s the equation for the expense ratio

Answer 24

total expenses / sales

Question 25

what does accounts receivable turnover ratio determine

Answer 25

measures the effectiveness of the firms credit policy

Question 26

what is the accounts receivable turnover ratio equation

Answer 26

365/sales/accounts receivable

Question 27

what is the average credit period

Answer 27

30 days

Question 28

should the efficiency ratio be high or low

Answer 28

low

Question 29

what are the limitations of financial reports (6)

Answer 29

Debt repayments
Capitalising expenses
Normalised earnings
Timing issues
Notes of financial statements
Assets valuation

Question 30

why are normalised earnings misleading

Answer 30

they remove one time influences (eg sale of land)

Question 31

why is capitalising expenses misleading

Answer 31

they reclassify expenses as assets

Question 32

how can valuing assets be misleading

Answer 32

inaccurate calculation of asset

Question 33

how can debt repayments be misleading

Answer 33

financial reports don’t disclose information about debt repayments

Question 34

how can notes to financial statements misleading

Answer 34

may not be easy to understand

Question 35

why do businesses over estimate expenditure and underestimate revenue

Answer 35

to allow a margin for error so the investor doesnt feel they invested in a bad business

Question 36

what types of audits are there (2)

Answer 36

external
internal

Question 37

what are external audits

Answer 37

when a outside accountant checks all financial information to ensure the business is not lying and misleading investors

Question 38

what are internal audits

Answer 38

when someone within the business checks

Question 39

what is tax evasion

Answer 39

when a business doesn’t declare revenue to lower tax