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FINANCIAL RATIOS AND MEASURES REVIEW

RATIO ANALYSIS
Ratios can be used as indicators of business health or impending problems. There are two main approaches to ration analysis: Vertical Comparison of figures within one financial period. Comparison of figures from different financial years.

Horizontal

 Ratios should be compared to performance indicator (KPI). .UNDERSTANDING RATIOS  Ratios must be interpreted after considering the economic and industrial conditions applying to the organisation.  Ratios should be compared over time to determine the factors that have caused changes in the results and determine specific trends. a reasonable  Ratios can assist to performance analyse any item or sub total in a profit & loss.

X 100 Revenue Measures the adequacy of trading profit or margin .GROSS MARGIN % Gross Profit --------------.

PROFITABILITY % EBIT --------------.X 100 Revenue Critical measure of operational performance before tax and interest .

.Earnings Before Interest and Tax TAX EBIT COST OF SALES OUTPUT BANK SHAREHOLDERS SALES VARIABLE COSTS GROSS PROFIT FIXED COSTS CONTRIBUTION. DIVIDENDS INTEREST EBIT TAX PROFIT BEFORE TAX NET PROFIT RI .

X 100 Revenue Measures the final net profit rate after tax and interest .NET PROFIT TO SALES Net Profit --------------.

PROFIT MANAGEMENT Product Service Yield Control of Costs Optimum Volume P S Y C O .

ACCOUNTS RECEIVABLE COLLECTION RATE Accounts Receivable -----------------Revenue X 365 Measures Accounts Receivable Collection Rate Appropriate Time Period .

ACCOUNTS PAYABLE COLLECTION RATE Accounts Payable -----------------COGS X 365 Measures Accounts Payable Payment Period .

INVENTORY TURNOVER Inventory -----------------COGS X 365 Average Inventory = Measures the level of inventory turnover (Shelf Life of Stock) Opening Inventory + Closing Inventory 2 .

CURRENT RATIO Current Assets -----------------Current Liabilities Working Capital % = Accs Rec. + Inventory – Accs Pay./ Revenue * 100 * Time Period Basic test of the ability to pay debts .

ASSET TURNOVER RATE Sales --------------Net Assets How much in sales are generated from each $1 of capital invested in net assets .

A negative amount CASH FLOW shows that cash flow has increased. Short Term + Long Term Debt (Last Period) Short Term + Long Term Debt (This period) _ Measures The change in externally borrowed funds from one period To the next .

WHY GO INTO BUSINESS? To get a To Get a Return On Capital Employed Or ROCE .

Hire purchase & taxation Liabilities) Creditors Retained Profits & reserves .THE ACCOUNTING EQUATION Equity Assets Liabilities = Shareholders funds Fixed assets Debtors Inventory Other current assets Cash Bank overdraft Other short term debt (eg lease.

THE ACCOUNTING EQUATION Net Debt + Equity = Total Operating Assets (Capital Employed) How the Business is funded = How the funds are applied in the business .

FINANCE Capital Employed DEBT CAPITAL Bank Loans Bank Overdraft Leases Hire Purchase + EQUITY CAPITAL Share capital Retained Income Reserves Other Equity Funding = OPERATIONS Operating Working Capital Accounts Receivables Inventories Other Current Assets (Accounts Payables) + NON-CURRENT ASSETS Investments Intangibles Buildings Plant Equipment Net Assets .

COMPONENTS OF ROCE EBIT Revenue X Revenue Net Operating Assets X 100 Measures Profit and Loss Management Measures Balance Sheet Management .

RETURN ON CAPITAL EMPLOYED (ROCE) • One measure that combines both profit and loss management and balance sheet performance • Is measured before any financing cost to enable comparisons to be made with the average cost of finance • Is critical to the assessment of value creation .