UNIT 5 - Chap 26: Analysis of accounts Flashcards
Are profit and profitability the same and explain?
No, profitability is how profitable the business is based on percentage and profit is just revenue - cost of sales
Profitability is the measurement of profit maderelative to either what 2 things? (2)
- The value of sales achieved
- The capital invested in the business
What kind of number is profitability number?
Percentage
Who is profitabilityimportant for?
- Investors when deciding whether to invest
- Directors and managers to assess whether thebusiness is becomingmore or less successful.
What are the 5 Profitability ratios? (5)
- Gross profit margins
- Net profit margin
- Return on Capital Employed
(ROCE) - Current test ratio
- Acid test ratio
What is the definition of liquidity?
Liquidity is the ability of a business to pay back its short term debts. E.g. suppliers and overdrafts. If they can’t pay them they will be illiquid.
What is the formula for gross profit margin?
Gross Profit/Revenue x100
Why might have gross profit margin increased?
- Prices have risen
- Costs of sales have reduced
Is it better to have a high or lower % of gross profit?
The higher this % the better.
What is the formula for net profit margin?
Net Profit/Revenue x100
Why might have net profit margin increased?
- If this increases this may mean managers are more efficient by cutting expenses
Is it better to have a high or lower % of net profit?
- The higher this result the more successful managers are at making profit from sales.
Which is better NPM or GPM?
-Well NPM takes into account all other expenses compared to the GPM but it depends on the business
What is the formula for Return onCapitalEmployed?
Net profit/Capital Employed x100
What is the definition for capital employed?
Capital Employedis the money invested intothe business usually from shareholders andloans.
Is it better to have a high or lower % of Return onCapitalEmployed?
The higher the result, the more successful themanagers are at gaining shareholders a goodreturn on their investment
What is the formula for Return oncurrent ratios?
current assets/current liabilities
What is a number too high for current ratios and why?
If the current ratio higher than two, it means it is too high and the cash is better spent somewhere else for example advertising
What is a safe current ratio?
A ‘Safe’ Current ratio would be between 1.5 and 2.
What is a number too low for current ratios and why?
Current assets that are less than 1 mean businesses will have cash flow problems and will not be able to pay its short-term debts
Why are acid test ratios more realistic than current ratios?
The Acid Test ratio is said to be more realistic than the current ratio as it doesn’t count inventories as a current asset.
What is a safe acid test ratio?
A result of one and above is said to be acceptable as this means business can pay off its short-term debts
What is a managers interests in the accounts of a business?
Will help a manager assess whether the business is profitable and has strong liquidity. If not, theycan then find solutions
What is a shareholder interested in the accounts of a business?
Shareholders will want to see the GPM, NPM and ROCE. They want to see if they will get a goodreturn on their investment
What is a creditors (suppliers) interested in the accounts of a business?
They will want to see the business liquidity ratios. They will want to see if is a business is able topay back its debts on time. If the business has a low liquidity ratio, the supplier may not tradewith the business.
What is a banks interested in the accounts of a business?
The bank will want to see the liquidity ratios. They will not lend to a business that is at risk ofbeing illiquid andcan notpay debts
What is the government interested in the accounts of a business?
Will want to see a business Income statement as they will want to see how much corporation taxthey will be receiving
What is a employees interested in the accounts of a business?
Employees may want to see a business Income statement to see if they business is very profitableIf so then they could try to negotiate a pay rise.
