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Ratio Analysis Flashcards

1
Q

why are ratios calculated for several different time periods

A

to enable users to make comparisons to see if ratios are rising, falling or staying the same

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2
Q

what are the advantages of using ratios

A

easy to calculate and understand

simplify data into key indicators to hghlight trends and variances

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3
Q

what are the three types of ratios

A

efficiency
profitability
performance

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4
Q

what are the profitability ratios

A

gross profit percentage
operating profit percentage
return on capital employed
return on ordinary shareholders’ funds

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5
Q

what does the gross profit percentage asses

A

how efficiently entities are controlling their production costs/ costs of buying goods for resale

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6
Q

how to calculate gross profit percentage

A

gross profit / revenue x100%

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7
Q

what are some possible reasons for changes in gross profit %

A

selling prices rising faster/more slowly than costs of goods sold

rising/falling in prices of materials/goods brought in

increased/decreased productivity in the workforce

supplier bulk discounts reduce costs

bulk discounts to customer reduce revenue

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8
Q

what does the operating profit assess

A

changes in distribution and selling costs and admin expenses

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9
Q

how to calculate operating profit %

A

operating profit / revenue x 100%

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10
Q

what does return on ordinary shareholders funds assess

A

the amount of profit for the period available to owners with their average investment in the business during that same period

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11
Q

how to calculate return on ordinary shareholders’ funds

A

profit for the year/ total equity x100

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12
Q

What does return on capital employed assess

A

measures the returns to all suppliers of long-term finance before any deductions for interest payable on borrowings, or payments of dividends to shareholders, are made

ie how high are turns from their capital structures

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13
Q

how to calculate the return on capital employed

A

operating profit/(equity + non current liabilities) x100

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14
Q

what are some problems associated with the return on capital employed

A

not all assets used to generate profit are presented in entities’ SoFPs

SoFP figures do not represent current values

All figures need adjusting for inflation

Total shareholder return is a better indicator of investment returns available from companies

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15
Q

what do efficiency ratios measure

A

how effectively and productively the resources of the organisation are being used in the generation of revenue and profit

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16
Q

what are the two types of resources used in measuring efficiency ratios

A

non current assets

employees

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17
Q

what are the efficiency ratios

A

non current asset turnover
revenue per employee
sales per employee

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18
Q

what does no current asset turnover measure

A

efficiency of the non current assets being used to generate sales

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19
Q

how to calculate the non current asset turnover

A

revenue/ non current assets

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20
Q

how might the non current assets turnover be inaccurate

A

careful of when assets were bought. If they are still valued at their cost price this is inaccurate

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21
Q

how to calculate revenue per employee

A

revenue / #employees

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22
Q

how to calculate profit per employee

A

profit /#empoyees

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23
Q

where can # of employees be found

A

annual report

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24
Q

what are the performance ratios

A 
dividend per share
earnings per share
price earnings ratio
dividend yield
dividend cover
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25
what does earnings per share measure
profit earned during each accounting period by an ordinary share if all profits were paid out as dividends, what would be paid out to shareholders
26
how to calculate earnings per share
profit after tax / #ordinary shares
27
why is earnings per share an important figure for the stock market
will determine share prices
28
what does price earnings ratio measure
how many years of current period earnings are represented in today's share price
29
what does a higher price earnings ratio mean
higher confidence in the company | steady profits as dividends from these shares are more certain
30
what does a lower price earnings ratio mean
volatile profits and dividends will be much less certain
31
how to calculate price earnings ratio
market value of one ordinary share / eps
32
what does dividends per share measure
the dividends in pence paid out on each ordinary share
33
the ideal circumstance for the shareholders is that the dividends per share increases or decreases each year
increases
34
how to calculate dividends per share
total ordinary dividends/ # ordinary shares x100pence
35
how to calc the dividend pay out ratio
dividend per share / earnings per share x 100%
36
what does the dividend pay out ratio measure
the % of earnings per share distributed as dividend per year
37
how do the dividend yields compare to interest rates in a bank account
is it better to put the money into a bank account with an interest rate or is it better to risk putting them into shares and potentially getting higher yields
38
how to calculate dividend yeild
dividend per share / current market price of one ordinary share x100
39
how to calculate dividend cover
profit after tax / total ordinary dividend
40
what does dividend cover measure
how many times the current year ordinary dividend can be paid from profit for the year
41
when does overtrading occur
where a business is operating at a level of activity that cannot be supported by the amount of finance that has been committed
42
what does overtrading result in
liquidity problems suppliers withholding supplies
43
what is liquidity
entities’ ability to raise cash to pay off liabilities as they become due for payment , if unable to generate this cash, it cannot pay debts or survive so will file for bankruptcy
44
do retailers generate cash quickly or slowly
quickly as customers pay cash for goods
45
do manufacturers generate cash quickly or slowly
slowly as sell to customers on credit and so have to wait for payment
46
what does current ratio measure
how msny €s of current assets an entity has for each € of liabilities determines if the organisation has enough short term assets from which to meet short term liabilities
47
how to calculate current ratio
current assets/current liabilities
48
what is the recommended ratio for current assets to current liabilities
2:1
49
what is the current ratio determined by
how quickly cash is generated
50
what does quick ratio measure
assumes that inventory will not sell as quickly current assets to current liabilities
51
how to calculate quick ratio
current assets - inventories / current liabilities
52
what is the recommended quick ratio
1:1
53
what is working capital
current assets - current liabilities
54
what do working capital ratios measure
how quickly inventory is sold, how quickly trade receivables are turned into cash and how quickly trade payables are paid
55
what are the 3 working capital ratios
inventory days receivable days payables days
56
what does inventory days measure
the average stockholding period
57
is higher or lower inventory days bette
lower
58
how to calculate inventory days
closing inventory/cost of sales x365
59
why is it better to have a higher turnover of stock
cash more readily less risk of deterioration of stock lower storage costs
60
what does receivables days measure
the average credit period taken by credit customers
61
how to calculate receivables days
closing trade receivables/credit sales x365
62
does a business usually want higher or lower receivables days
lower
63
if the receivable days are getting too high, what incentives can be used to help reduce inventory days
discounts
64
what do payables days measure
average credit period taken by an entity to pay its suppliers
65
how to calculate payables days
closing trade payables / cost of sales x365
66
ideally how should payables be paid
using money received from receivables
67
what is the cash conversion cycle
how quickly inventory is turned into trade receivables and these trade receivables are turned unto cash with is used to pay trade payables
68
how to calculate cash conversion cycle
inventory days + receivable days - payable days = cash conversion cycle
69
is a short cash cycle or longer better
shorter
70
what are the long term solvency ratios
gearing ratio debt ratio interest cover
71
what is long term solvency
an organisation's ability to meet the interest on repayment of long term, non current liabilities as they fall due
72
what is financial stability
the avoidance of excessive borrowings, consistency of demand for products and services and the ability to innovate to stay relevant
73
what does gearing ratio measure
total borrowings as a percentage of equity measure of risk
74
how to calculate gearing ratio
long+short term borrowings / equity x100
75
what does the debt ratio measure
the number of euros of liabilities to euros of assets
76
how to calculate the debt ratio
total liabilities / total assets
77
is a lower or higher debt ratio better
lower as it is more secure as there are more assets to cover the liabilities
78
what does interest cover measure
how many times interest payable on borrowings can be paid from operating profit
79
is a higher or lower interest cover better
higher indicated that they can continue to make interest payments into the future
80
how to calculate interest cover
profit before interest and tax/interest expense
81
what else can be used to measure long term financial stabliity
how consistent is demand how strong are cash flows how many years before the repayment of borrowings is due, is the interest rate fixed or variable
82
what compnies should ratios be compared to
``` those: in similar industry in similar locations of similar size with the same accounting period ```
83
what else should the ratios be compared to other than other companies
against budgeted/planned data against industry averages
84
what is the cash flow cycle of retailers
``` goods purchased on credit from suppliers -> goods sold to customers for cash -> cash used to pay suppliers and other claims ```
85
what does the cash flow cycle look like for manufacturers
raw materials purchased on credit from suppliers -> raw materials turned into finished goods -> finished goods sold on credit to customer -> cash used to pay suppliers and other credits -> customers pay what is owed on due date
86
when borrowing risk should be evaluated by:
``` affordability interest repayment dates operating cash inflows (how much cash will be on hand) consistency of product demand ```
87
if cost of sales is not provided how should working capital ratios be calculated
using revenue

Accounting 1 (10 decks)

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