5.4 Ratios

Question 1

purpose of ratio analysis

Answer 1

• past and present financial results
• their results and the results of a similar business
• budgeted and actual results

Question 2

limitations of ratio analysis

Answer 2

• the information is old and doesn’t show would could happen
  in the future
• difficult to make comparisons between organisations
  unless they are the same
• external factors are not taken into consideration (PESTEC)
• research/ development costs not taken into consideration

Question 3

areas of ratio analysis

Answer 3

• profitability
• liquidity
• efficiency

Question 4

profitability

Answer 4

• shows whether the business has met its objectives
• looks at the gross profit, profit for the year, mark-up and the return
  on equity employed

Question 5

liquidity

Answer 5

• shows how easy it is for a business to pay its debts.
• Liquidity ratios look at the Statement of Financial Position (balance sheet), and the current assets and current liabilities

Question 6

efficiency

Answer 6

• looks at how well the business has used its assets and
  controlled its debts.
• compares average inventory and rate of inventory turnover.
• ratios that look at trade receivables collection period (how long it takes debtors to pay)
• trade payables collection period (how long it takes suppliers to pay)