Topic 10- Whole Business Analysis Flashcards
List and explain the 3 types of whole business (as opposed to enterprise) financial performance indicators.
• Profitability ratios
- which gauge the business’ earning capacity or profitability, that is the success achieved in the past by a business, and likely to be achieved in the future.
• Liquidity ratios
- which gauge the business’ ability or capacity to satisfy its short term financial commitments and, as such, reflects the business’ short term financial stability.
• Financial stability ratios
- which gauge the ability of a business to continue operations in long term whilst meeting its long term financial commitments and, at the same time, retaining sufficient working capital to facilitate daily operations.
What is Gross profit ratio?
this ratio relates the business’ gross profit to its net sales and indicates how much of each dollar received from sales the business is able to earn as gross profit.
What is Net profit ratio?
– this ratio indicates how much of each dollar of sales is retained as a net profit.
what is Financial expense ratio?
this ratio relates financial expenses (interest, bank charges) to the net sales and thus indicates how much of each sales dollar is used to cover financial expenses.
What is Salary expense ratio?
this ratio relates the salary expenses (interest, bank charges) to the net sales and thus indicates how much of each sales dollar is used to cover salary expenses.
What is Return to equity?
this ratio represents the earning power of the capital invested in the business by the owners. It shows the return earned by those assets which are owned by the business owner.
What is Return to capital?
this ratio is also known as the ‘return to total assets’ ratio and represents the earning power of the total capital invested in the business.
What is a Current ratio?
– this ratio relates current assets to current liabilities. It indicates whether a business can pay its way in the near future, when present current assets can be converted to cash to meet short term creditor obligations, without reducing future productive capacity.
What is a Quick ratio?
this ratio examines the relationship of funds of a readily convertible nature (liquid assets) to current liabilities and, therefore, assesses the business’ ability to meet the immediate financial demands placed on it (usually by creditors) or its capacity to withstand a short term financial crisis.
What is an Equity ratio?
This ratio represents the proportion of funds required to finance the business’ assets, which have been supplied by the owners as distinct from the funds supplied by external creditors.
What is a Debt ratio?
This ratio assesses the relationship between the business’ total liabilities and total assets. The ratio indicates the proportion of total assets which is financed by external creditors. The lower the ratio, the lower the claim which creditors have on the business. Alternatively, we could say the lower the ratio, the greater the protection for creditors as the business has assets of a much greater value than the creditor’s claim against the business.
What is Debt equity ratio?
this ratio examines the relationship between external liabilities and owner’s equity. The lower this ratio, the better because it would indicate a relatively low dependence on outside funds to finance the business and its operations. This ratio is also referred to as leverage ratio.
Explain your understanding of the concept of ‘leverage’, and identify which of the ratios relate to a business’s leverage.
Leverage (or gearing) refers to the degree of dependence on outside funds (external debt) to finance the assets of the business. Thus, if the debt-equity ratio is high, the business is highly geared or levered.
The ratios which relate to a business’ leverage are the debt equity, debt and equity ratios.
What is the purpose of a vertical analysis and how is it conducted?
Vertical analysis facilitates the expression of individual item values, on a financial statement, as a percentage of another item value on the same financial statement.
What is the purpose of a horizontal analysis and how is it conducted?
The objective of horizontal analysis is to identify changes which occurs in the same financial statement item over two or more years.
