Ratios Flashcards
Profitability Def
Profitability refers to the earning capacity of the business during the accounting period.
Profit Ratio Def
shows the percentage of profit that is contained in each dollar of sales.
Results for profit ratio
higher the better, ideal is any positive amount as negative amount indicates a loss has been made
Factors that will increase trend for profit
selling a greater proportion of high profit items
cost of sales may have decreased
expenses may have decreased
Factors that will decrease trend for profit
selling a higher proportion of low profit items
cost of sales may have increased
expenses may have increased
Gross profit def
gross profit ratio is a measure of the level of profit available, after subtracting the cost of sale expense to cover remaining expenses of a business.
gross profit results
higher the better
ideal is any psotive amount as negative amount shows that gross loss has een made
gross profit increasing trend
increase in the selling price of the inventory higher than any increase in the purchasing price
business has purchased inventory at a lower price
gross profit decreasing trend
increase in purchase price of the inventory higher than any increase in selling price.
decrease in selling price of inventory possibly caused by new competitor entering the market, a
Expenses Ratio def
Expense ratio compares the sales to the total operating expenses, e.g. selling and distribution, general and administrative and financial expenses. From this ratio the owner of a business can see extent to which the operating expenses have affected the profit.
Expenses result
Lower the better
expenses increasing trend
expeneses has increased
net sales have decreased
expenses decreasing trend
expenses have decreased
net sales have increased
Rate on Return on Assets Def
Rate on return on assets ratio shows overall earning power of total assets before any payment to equity or debt providers
Rate on return on assets results
higher the better
ideal is positive amount, as negative result indicates loss has been made
rate on return on assets incrasing trend
money invested is being used more efficently
greater return earned from the same quantiy of assets
rate on return on assets decreasing trend
business is using assets lless efficientyl
business might need to consider reducing the amount invested in assets - assets may be idle
Actions to improve profitability
locating cheaper supplies
increasing prices
cutting operating costs such as wages and utilities
Liquidity ratio def
Liquiditly ratio assist in assessing the business ability to meet its financial commitments in the short term
working capital results
higher the ratio is the better, indicates strong liquidity
ideal level is 2:1 as this indicates that for every $1 of current laibilty business has $2 in current asset to meet this obbligation
If ratio is igger than 2:1, business may e missing investment oppurtunities.
Working capital/current
working capital ratio shows short term det paying ability. it answers the question of wheter the business can meet its debts as they fall due in the normal course of business.
trend increasing working capital
inventoory might be being sold more slowly
debtors may be taking longer to pay
there may be idle cash
trend decreasing working capital
inventory beign sold more quickly
debotrs may e paying more promptly
quick asset def
quick asset ratio is a measure of the abbiltiy of a business to pay its short term debts using only its more liquid current assets
quick assets results
ideal levle is higher than 1:1, whic means usiness should e able to pay immediate debts
quick assets increasing trend
debtors, short term investment or cash may hve increased
creditors may have decreased
quick assets decreasing trend
debtors, short term investments cah may have decreased
creditors may haave increased
ACTIONS TO IMPROVE LIQUIDITY
ADDITIONAL CAPITAL
non curreent asset sold for cash
using cheaper suppliers
increasing collections from debtors
Leverage or gearing def
desrbies extent to which a business has funded its operation from borrowed funds rather than equity
dEBT TO EQUITY DEF
Debt to equity ratio measures how the business has funded its assets comparing the total labilities to amount of contributed equity
debt to wquity results
lower , safer fiancials are
ideal is less than 100% as this indicates business is less reliant in external finacial pressures
actions ti improve leverage
paying off debt
contruting addtioanl capital
cutbacks on inventory purchases
delaying major capital investment
