Business 3.5 Flashcards
give me the all the profitability ratios
Gross profit margin
Profit margin
give me all the liquidity ratios
Current ratio
Acid test ratio
give me efficiency ratio
roce
Gross profit margin strategy to increase it
-Raise/decrease prices
Pro: Reduction of prices may result in increased demand and thus higher revenue. Increasing the prices may result in higher revenues if the demand doesn’t fall (this usually works for products that do not have many alternatives).
Con:The downside of price increase/reduction is that it might impact brand image negatively as it can be perceived as inferior in case of price reduction or unethical in case of price increase.
-Promotion (ads)
Pro:This way, more potential customers will be likely to know about the product sold.
Con:However, being aware of the product does not necessarily result in purchasing the product. In addition, marketing costs might also increase with increased promotion.
-Cut labour costs
-Use cheaper suppliers
Profit Margin strategy to increase it
Postpone payment
Negociate discounts
Delayering
Cutting overheads
ROCE how to increase it
reduce long term loans:
ROCE may be improved by minimising non-current liabilities by reducing long-term loans. The downside is that long-term loans are usually used to sustain business growth by purchasing non-current assets. So, not having enough funds for growth might diminish organisational growth in the long-term.
-pay more dividends
What is a desired liquidity ratio and what is too much/too low
The ideal current ratio, which varies by industry, ranges from 1.5:1 to 2:1, indicating a balance between assets and liabilities. A ratio below 1:1 suggests liquidity issues, while above 2:1 may signal excessive cash (which depreciates due to inflation), high levels of debtors (risking bad debts from credit sales), or surplus stock (indicating unsold goods that occupy storage without generating value), all of which are financially undesirable situations.
What is current ratio
Compares organisation’s current assets to current liabilities.
Strategy to increase current ratio
Consideration of Cash Levels: While increasing cash improves the ratio, holding excessive cash is not ideal due to its depreciating nature due to inflation.
Balance is Key: Aim for a balance in cash levels to ensure there is enough to sustain day-to-day operations without holding too much (to avoid depreciation) or too little (to prevent liquidity problems).
Decrease Current Liabilities:
-Utilize long-term financing instead of short-term sources to reduce current liabilities.
-Improves Ratio and Reduces Payment Burdens: This approach enhances the current ratio and lessens the stress of frequent short-term loan payments.
-Risk of Liquidity Problems: Care must be taken to avoid liquidity issues, ensuring there’s enough cash for short-term expenses like wages, utilities, and supply deliveries.
-Importance of Balance: Maintaining a balance is crucial to avoid liquidity problems while improving the current ratio.
what is acid test ratio
compares organisation’s current assets less stock to current liabilities. The formula of acid test ratio is:
Strategies to improve acid test ratio
The strategies to improve acid test ratio are the same as for current ratio, but in addition to them, the organisation might get rid of stocks quickly by selling them with a discount. On the one hand, it will improve liquidity because there will be more cash. But on the other hand, discount means lower revenue, which might have a negative effect on profitability.
