Ratio Analysis Flashcards
What are profitability ratios ?
Evaluate business buying policy, selling price, and expense level
Gross profit ratio
Profit for the year ratio
Profit mark up ratio
Gross profit ratio
Gross profit over sales times 100
Calculate percentage of profit earned on trading activities
To improve…
Increase selling price
Cheaper suppliers or negotiate discounts
Increase supervision so less theft or damage to stock
Profit for the year ratio
Profit for the year over sales times 100
Percentage of profit earned after expenses deducted
To improve…
Improve gross profit percentage
Identify any expenses that can be reduced
Profit mark up ratio
Gross profit over cost of goods sold times 100
Percentage added to cost of goods as profit
To improve…
Cheaper suppliers or negotiate discounts
Increase selling price
What are liquidity ratios?
Test if enough business has enough money to pay bills, debts and continue trading
Current ratio
Acid test
Current ratio
Current assets over current liabilities to 1 Measures it business has enough assets to cover liabilities Ideal 2:1 To improve... Chase up trade receivables Pay off current liabilities Sell unneccesssry assets Avoid overspending Delay payment of capital purchases
Acid test
Current assets-inventory over current liabilities to 1 If business has enough liquid assets to cover current liabilities Ideal 1:1 To improve... Use efficient inventory control system Chase up trade receivables Pay off current liabilities Sell unnecessaryassets Avoid over spending Delay payment of capital purchases
What are efficiency ratios?
Measures if the business is making best use of its resources
Return on equity employed
Rate of inventory turnover
Return on equity employed
Profit for the year before tax over opening equity times 100
Percentage return on equity invested in the business
To improve…
increase profit for the year
Rate of inventory turnover
Cost of sales over average inventory times 100
Measure number of times inventory held by the company is turned over in the year
Expressed in number of times inventory is bought
To improve…
Have an effective inventory control system
What are used of ratio analysis?
Easier to compare figures
Comparisons can be made to previous years
Trends can be spotted
Easier to compare with similar organisations
Limitations of ratio analysis?
Information is historical
Doesn’t take into account recent investment or external factors
Doesn’t show product developments or decline
Doesn’t even staff morale or turnover
Like must be compared with like
