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Unit 3.5 Profitability and liquidity ratio analysis - Question bank

Test your understanding of this topic in the IB Business Management syllabus by answering these 15 questions. This is
a "dynamic quiz", so feel free to revisit this page regularly as the questions are updated each time you take this quiz.
There are over 30 questions for this topic in the question bank.

If sales revenue equals $10 million, cost of goods sold equal $6 million and expenses equals $3 million, what is the net
profit margin?

A.   10%

B.   40%

C.   20%

D.   35%

Which of the following performance measures is concerned with a firm’s liquidity?

A.   Gross profit margin

B.   Return on capital employed

C.   Acid test

D.   Net profit margin

Liquidity ratios calculate how easily a business can pay off its short term debt with its current assets. The acid test is a
liquidity ratio, whereas the other options are all classified as profitability ratios.

Fill in the missing parts in the following text:

A profitability ratio that measures a firm’s efficiency and profitability in relation to its size (as measured by the value of
the organization’s capital employed).  

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          short term work quick liquidity semi current debts stock acid

Liquidity ratios examine a firm’s ability to pay its    . The    ratio is a liquidity ratio

which calculates the ability of a firm to meet its     liabilities. The    ratio (or  

 -test ratio) is a    ratio which measures a firm’s ability to meet its short-term debts

but ignores    because some inventories are hard to turn into cash in a short time frame, especially  

 -in-progress (   -finished goods).

Drag the text boxes to fill in the missing parts in the following text:

          liabilities debts liquid quick current liabilities resources current stock inventories

Liquidity ratios calculate how easily a business can pay off its short term    with its  

 assets. The current ratio measures a firm’s liquid assets compared to its short-term    . It is

calculated by using the following formula: current assets ÷    . The higher the current ratio, the more

money is tied up in liquid    . The acid test ratio is similar to the current ratio except that illiquid  

  are not included in the calculations. The    ratio ignores    (such

as semi-finished goods) as they are not always easy to convert into cash, i.e. not all stocks are highly  
 assets.

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          investment remuneration profitability security managers employees strategic

shareholders stakeholders

Different    are interested in the financial position of a business. The     (or owners)

of a business are interested in the return on their    , so will be interested in financial ratios related to

the firm’s profitability. The    (or personnel) of the organization may be interested in the  

 of the business because this can affect financial    and job    .

For    , who oversee business activity, financial ratios enable them to monitor performance and to

help with    decision-making.

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         ROCE gross profit profit percentage net profit capital employed sales revenue costs

Profitability ratios examine the level and value of a firm’s profits. The    ratio measures the financial

performance of a business (i.e. the    ) compared with the amount of money invested in the business

(i.e. the    ), and is expressed as a    figure. The gross profit margin (GPM) is

calculated using the formula: (    ÷ sales revenue) × 100. Hence, the GPM shows the value of a firm’s

trading profit expressed as a percentage of its    . The net profit margin (NPM) is calculated using the

formula: (    ÷ sales revenue) × 100. It shows the value of a firm’s profit after all  
 are accounted for and expressed as a percentage of its sales revenue.

Which of the following statements best describes the net profit margin?

A.   It shows what proportion of profits are being distributed to shareholders

B.   It shows what return is being made on assets employed in the business

C.   It shows how well a company is controlling its costs, including expenses

D.   It show how efficiently a company is turning profits into cash

Fill in the missing parts in the following text:

A profitability ratio that measures an organization’s gross profit expressed as a percentage of its sales revenue. It is
also an indicator of how well a business can manage its direct costs of production.  

10

Type in the key term from the given definition below:

Items owned by a business with the intention of using these up within one year of the balance sheet date.  

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Also known as the quick ratio, this is a short-term liquidity ratio used to measure an organization’s ability to pay its
short-term debts (within the next 12 months of the balance sheet date), without the need to sell any stock (inventories).
   

12

How does the acid test ratio differ from the current ratio?

A.   It excludes the value of creditors

B.   It is concerned with future cash flows rather than historical cash flows

C.   It excludes the value of debtors

D.   It excludes the value of stocks which cannot be quickly turned into cash

The acid test ratio is similar to the current ratio except that (illiquid) stock are not included with other current assets.
The acid test ratio ignores stock as they are not always easily converted into cash, i.e. it is hard to sell stock which is
work-in-progress.

13

Fill in the missing parts in the following text:

A quantitative management planning and decision-making tool, used to analyse and evaluate the financial
performance of a business. These can be further categorised as profitability, liquidity and efficiency ratio analysis.  

14

If sales revenue equals $10 million, cost of goods sold equal $6 million and expenses equals $3 million, what is the net
profit margin?

A.   40%

B.   10%

C.   35%

D.   20%

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Which of the following is not a financial ratio?

A.   Net profit margin

B.   Return on capital employed

C.   Staff turnover ratio

D.   Gross profit margin

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