financial accounting ratios Flashcards
(17 cards)
ratios are used for
analysing information and interpretation accounting statements.
- without them FS would be very informative unless extra skilled
- financial statements can be interpreted and usefully applied to satisfy the needs of the readers
- Figures are only comparable if they have been built up on a similar basis
Ratios benchmark[1]
Past periods
Similar businesses
Planned performance
categories for ratios
-profitability
-liquidity
-efficiency
-shareholder
-capital structure
GROSS PROFIT and Net PROFT
GPM= gross profit/ sales
NPM= net profit/ sales
calculating missing figures
Using these ratios to complete trading account where some of the figures are missing
Assume that all the inventory in a business has he same rate of mark-up; and
Ignore wastages and theft of inventory
PROFITABILITY
Return on Capital Employed (ROCE)
ROCE= (NET PROFIT/ CAPITAL EMPLOYED)X 100
USE AVERAGE OF CAPITAL ACCOUNT AS THE FIGUIRE FOR CAPITAL EMPLOYED
LIQUIDITY
CURRENT RATIO (2;1)
ACID TEST RATIO (1:1 minimum)- quick ratio
CURRENT RATIO= Current assets/ Current liabilites
ACID TEST RATIO= (Current Asset- Invantory)/ current liabilities
The higher the current ratio, the more liquid the business is considered
Efficiancy (1)
invantory turnover: faster you sell invantory the more gross profit made
(invantories / COS) x 365
checks how quickly we are turning over our inventory
if leave 365 ommited loose all marks, can be analysed over many years
efficiancy (2)
trade recievables or sales ratio
trade payable or purchase ratio
TRADE RECIEVABLES = (tr/ sales revenue) x365
TRADE PAYABLES= (TP/PURCHASES) X 365
WHAT DOES TRADE RECIEVABLE RATIO TELL ME
efficiancy
TR ratio ans Ratio Money tied up unnecessarily in trade receivables is unproductive money
Credit control system-> give good credit customers longer payback
Hard to sell goods, or forced to sell to customers on long credit terms
Rising receivables/sales ratios may signal liquidity problems
trade recievables/ sales revenue x365
TRADE PAYABLES ratio what does it tell me
efficiancy
High period may indicate liquidity problems, or Good negotiating skills
trade payable/ purchases x365
earnings per share (EPS)
share holders ratio
Amount of profit earned for each ordinary share
Trend in EPS over time able to assess the investment potential of a business’s shares
shareholder ratios
Price earnings ratio
Relates the market value of a share to the earnings per share
A measurement of market confidence
Higher P/E – company considered attractive as a source of revenue
4 types of shareholders ratio
Earnings per share.
price/ eaenings
ratio edividend yield
dividend cover
shareholder ratio
Dividend yield
Relates the cash return from a share to its current market value
Assessing the cash return on shareholder’s investment in the business
Dividend cover
How many times the earnings available to cover the actual dividend paid
Gearing Ratio
Only occurs when a business is financed by loan as well as equity. The owners have insufficient funds .. increase the returns to owners.
lowest risk – Loan
Medium risk – Preference shares
Highest risk – Ordinary shares
gearing ratio…
High geared company:
In bade time: very little might be left over for ordinary shareholders after payment of interest on the debt items and also preference dividends
In good times, the ordinary shareholders will enjoy a far higher return
People investing in ordinary shares in a high geared company are taking a far greater risk with their money
Reduce gearing
Issue new ordinary shares
Redeem loan notes
Retain profi
Increase gearing
Issue loan notes
Buy back ordinary shares in issue
Issue new preference shares
