Week 7

Question 1

Financial statement users

Answer 1

Investors, Creditors/Lenders, Management, Employees
Regulators/Tax Authorities,
Suppliers

Question 3

What is ratio analysis?

Answer 3

a tool used to evaluate a company’s financial performance by comparing different numbers from its financial statements. It helps you understand key aspects of a company, like how profitable it is, how easily it can pay its bills, and how well it’s managing its resources.

Question 4

Three types of ratio analysis

Answer 4

• Profitability
• Liquidity
• Efficiency

Question 5

Ratio analysis types - Profitability

Answer 5

How successfully is the business trading?

Question 6

Ratio analysis types - Liquidity

Answer 6

How easy is it for the business to pay its financial
commitments?

Question 7

Ratio analysis type - Efficiency

Answer 7

How effectively are the short-term assets and liabilities of the
business being managed?

Question 8

Four profitability ratios

Answer 8

1. Return on Capital Employed (ROCE)
2. Gross profit Margin
3. Operating Profit Margin
4. Expenses Ratio

Question 9

1. Return on capital employed definition

Answer 9

How effectively management is using the funds invested in the
business to generate profits.

Question 10

1. Return on capital employed calculation

Answer 10

Operating Profit (𝐄𝐁𝐈𝐓)
Shareholder’s Fund / Long−term Liability
× 𝟏𝟎𝟎

Question 11

2. Gross profit margin definition

Answer 11

Compares gross profit as a percentage of selling price of goods
to identify whether sufficient profit is being generated from
purchase and sale of inventory.

Question 12

2. Gross profit margin calculation

Answer 12

Gross Profit / Sales
× 𝟏𝟎𝟎

Question 13

3. Operating profit margin definition

Answer 13

Compares operating profit to sales, to identify shifts in
profitability (before taking Interest/Tax into account)

Question 14

3. Operating profit margin calculation

Answer 14

Operating Profit / Sales
× 𝟏𝟎𝟎

Question 15

4. Expenses ratio definition

Answer 15

Allows expenses to be compared to sales to identify shifts /
anomalies.

Question 16

4. Expenses ratio calculation

Answer 16

Expenses / Sales
× 𝟏𝟎𝟎

Question 17

Acid test ratio definition

Answer 17

a measure of a company’s ability to pay its short-term liabilities using its most liquid assets, excluding inventor

Question 18

Acid test ratio calculation

Answer 18

AcidTestRatio=

CurrentAssets−Inventory / Current Liabilities
​

Question 19

Current ratio definition

Answer 19

is a liquidity ratio that measures a company’s ability to pay its short-term liabilities with its short-term assets

Question 20

Current ratio calculation

Answer 20

CurrentRatio=
CurrentLiabilities / CurrentAssets
​

Question 21

Inventory days calculation

Answer 21

Inventories / Cost of sales × 365 days

Question 22

Trade receivables calculation

Answer 22

Trade receivables / Credit sale × 365 days

Question 23

Trade payables calculation

Answer 23

Trade payables / Credit purchases. × 365 days

Question 24

Gearing definition

Answer 24

measures the extent to which a business is financed by debt rather than
equity capital

Question 25

Gearing calculation

Answer 25

long-term loans / (Ord share capital + reserves + long term loans) × 100

Question 26

Gearing advantages

Answer 26

- Increased Capital - Tax Benefits - Higher Returns - Lower Cost of Capital - Control Retention

Question 27

Gearing disadvantages

Answer 27

- Increased Financial Risk - Interest Costs - Reduced Flexibility - Debt Covenants - Potential for Bankruptcy

Question 28

Interest cover definition

Answer 28

tells you how many times the operating profit covers the interest expense

Question 29

Interest cover calculation

Answer 29

Operating profit (EBIT) / Interest expense

Question 30

Investment Ratios

Answer 30

are financial metrics that help investors assess a company's performance, profitability, and potential for future growth

Question 31

Key investment ratios

Answer 31

Earnings per share (EPS)

Question 32

Key investment ratios : Earnings per share (EPS) definition

Answer 32

considers how much profit is being made for each share

Question 33

Limitations of ratio analysis

Answer 33

- Lack of Standardization- Ignores External Factors Non-Financial Info: Ignores factors like management quality or market position. Window Dressing: Companies may manipulate financials to improve ratios. Time Lag: Ratios are based on historical data, not current conditions. Lack of Context Over-Simplification: