A2 Business Studies Resource

1. Do Now
Take out your homework from last lesson….
Test what you’ve learned!

2. Interpreting published accounts
(Part 2)

3. Learning Objectives
By the end of this lesson you should be able to:
1. Understand how to select, calculate and interpret
financial ratios to assess performance.
2. Explain the value and limitations of ratio analysis in
measuring a businesses performance.

4. Let’s practice from last lesson!
TASK 1 – Liquidity Ratios TASK 2 – Profitability Ratios
Current Ratio Gross Profit Margin
Acid Test Ratio Operating Profit Margin
(OPM)
ROCE
Complete the Thomas Cook Complete the Comparing Two
Group case study. Companies activity.

5. LIQUIDITY RATIOS
(The Acid Test)
Remember….
The acid test ratio accepts that it may not be able
to convert all stock into cash – Why?
What can they do/ use?
Sell Debts – ‘debt factoring’
Cash at bank
Sell a non-current asset
Consider just-in-time production.

6. Financial Efficiency Ratios
In order to become profitable and
remain liquid, firms must carefully
choose debtors, creditors and
stock and monitor their
efficiency.
Four common measures:
Asset Turnover
Inventory (Stock) Turnover
Payables (Creditor) Days
Receivables (Debtor) Days

7. FINANCIAL EFFICIENCY RATIOS
(Asset Turnover)
Measures how efficiently assets have been used to generate sales
revenue. Businesses generally aim to achieve a high turnover to show
assets are working hard for the company.
Asset Turnover = Sales Asset Turnover = £1,495 = 1.70
Net Assets £1,400
This means that for every £1 invested in assets, the business was able to
generate sales of £1.07 in one year.
This figure can vary from business to business depending on the industry and
can be used to make comparisons to other organisations.

8. FINANCIAL EFFICIENCY RATIOS
(Inventory or Stock Turnover)
Measures how many times a business turns over its
inventories in a year. A high turnover indicates that a firm is
selling inventories frequently to generate revenue.
Cost of sales = number of times stock is turned over in the year
Inventory
£10,000 = 50 times per year
£200
This means that the Business is selling its inventory 50 times
per year – this may mean that it needs to reorder stock 4
timer per month.

9. What do you think would be an acceptable
rate of Inventory Turnover for the following
Businesses?

10. Your turn!
Calculate the Asset
Turnover ratio and
Inventory/ Stock
Turnover ratio for
Alquimia Plc.
Where does
What can you infer from the
the analysis? information
come from?

11. FINANCIAL EFFICIENCY RATIOS
(Payables (Creditor) Days)
Measures the amount of time it takes to pay for
supplied purchases on credit.
Payables Days = Payables (Creditors) x 365
Credit Purchase
Payables Days = £38,500 x 365 = 35 days (app)
£400,000
If the credit purchase figure is not available, cost of
sales, can be used instead. In this example, it takes just
over one month to pay suppliers.

12. FINANCIAL EFFICIENCY RATIOS
(Receivables (Debtor) Days)
Measures the number of days it takes to receive
payment from customers.
Debtors Payment Period = Accounts Receivable (Debtors) x 365
Revenue
Debtors Payment Period = £50,000 x 365 = 52 days
£350,000
This means on average, this organisation can expect
to receive payment for sales in 52 days.

13. Your turn!
Calculate the Payables
(Creditor) Days ratio and
Receivables (Debtor)
Days ratio for Alquimia
Plc.
Where does
What can you infer from the
the analysis? information
come from?

14. Gearing Ratios
There is only one gearing ratio.
It measures the percentage of
a firms capital that is financed
by long-term loans or –
compulsory interest
generating sources that the
company has to pay interest
on regardless of profit.

15. Gearing Ratio
Measures the percentages of capital employed
comes from non-current liabilities.
Gearing Ratio % = Non-current Liabilities x 100
(Total Equity + Non-current liabilities)
Debtors Payment Period = £2,735 x 100 = 64%
£4,254
This means that for every £ invested in the business, 64p is from non-
current/ long-term liabilities where interest payments are compulsory.
If the interest rate increases then businesses are at risk of loan payments
increasing.

16. Your turn!
Calculate the Gearing
ratio for Alquimia Plc.
What can you infer from
the analysis?
Where does
the
information
come from?

17. What are the Value and Limitations of
Ratio Analysis?
VALUES LIMITATIONS
Help analyse financial Accuracy of financial
documents documents – may have been
‘window dresses’
Provide structure and put The balance sheet is a
figures in context ‘snapshot’
Provide a framework for Only show financial
meaningful comparisons performance and not the
Provide management with a bigger picture – what an
tool to monitor and set targets investor may be looking for!

18. Balance Sheet Bingo

19. Re-cap Learning Objectives
By the end of this lesson you should be able to:
1. Understand how to select, calculate and interpret
financial ratios to assess performance.
2. Explain the value and limitations of ratio analysis in
measuring a businesses performance.