Analysis of accounts.

Grade 11.
Case study
Lesson objectives
• Be able to calculate profitability ratios
• Understand the payback period of the business
• Assess the profitability of their own businesses.
Analysis of Accounts
What is meant by analysis of Accounts?
• It means using the data contained in the accounts to make some
useful observations about the performance and the financial strength
of the business.

• Why do analysis of Accounts?

• 1. to know if the business is performing better than last year
• 2. to know if the business is performing better than other businesses.
Profitability ratios
• 1. Return on capital employed.(ROCE)
• Capital employed is shareholders equity(capital)plus non-current
liabilities. It is the total long term and permanent capital invested in
the business.
ROCE=(Net Profit/capital employed)x100
• EXAMPLE:
• ABC Computing ltd made a net profit of $280million in 2013 and its
capital employed was $1065million. Calculate its ROCE
2. Gross Profit margin
• Gross profit margin=(Gross profit/Sales Revenue)X100

• EXAMPLE
• ABC Computing Ltd made a gross profit in 2013 of $400million. Total
sales revenue was $1300million. Calculate Gross profit margin.
3. Net profit margin
• Net profit margin=(Net profit/ Sales revenue)x 100
• Example
• ABC Computing ltd made a net profit of $240m in 2014. Calculate net
profit margin.
 Review.
ABC Computing Ltd -2012 accounts $m
summary
Sales Revenue 1200
Gross profit 450
Net profit 220
Capital employed 965

Using the above information, calculate

1. ROCE
2. Gross profit Margin
3. Net profit margin.

From the previous calculations, do you think the business performed better in 2012 or 2013? Give reasons.
Investment Appraisal
• A means of assessing whether an investment
project is worthwhile or not investing.
• Investment appraisal is all about assessing
income streams from investments against the
cost of the investment
 Investment Appraisal

What factors need to be

considered before
investing in equipment
such as this?
Payback Method
• The length of time taken to repay the initial capital cost
• Requires information on the returns the investment generates
• e.g. A machine costs £600,000
• It produces items that generate a profit of £5 each on a production
run of 60,000 units per year
• Payback period will be 2 years
Payback method
• Payback could occur during a year
• Can take account of this by reducing the cash inflows from the
investment to days, weeks or years
Initial Investment
Payback = ------------------------------------------
Total Cash Received
A proposed project

 A Company is considering the purchase of a piece of IT

System that costs $100,000. Projected net annual cash
flows over the project’s life are:
 Year 1: CF1 = $30,000.
 Year 2: CF2 = $50,000.
 Year 3: CF3 = $60,000.
Calculate the payback period.
Project payback period

Year CF C(0) Accu. CF $ to be recoved Payback period

0 100000
1 30000 30000 70000
2 50000 80000 20000 >2
3 60000 140000 -40000 <3
To be exact,
2+(20000/60000)
2.33 years
Calculate Payback period

Amina’s Company is considering the purchase of a piece of

equipment that costs $23,000. Projected net annual cash
flows over the project’s life are:
Year Net annual cash flow

1 $3000

2 $8000

3 $15000

4 $9000
Own project!!!
• 1. Think of how much capital you need start off your business. What
could be the annual income streams from the project.
• Calculate the time it will take for you to get back your initial capital.

• 2. calculate all the profitability ratios from your business and assess
the performance of your business