Finance Definitions 1
... is a snapshot of the business’s financial position at a certain point in time?
Balance Sheet
... resources that a business owns and expects to convert into cash before the date of the next balance sheet. Eg stock(inventory), trade receivable (debtors), cash
Current Assets
Both the GPM & Profit Margin can be used to measure how well the business .... and ....
•Adds Value and controls costs
•To improve Profit Margin, a business can:
(List 2)
•Improve gross profit margin (GPM)
•Reduce expenses
What is the formula for ROCE
•ROCE = Profit / Capital Employed x 100
.... debts of the business that will have to be paid sometime in the future?
Liabilities
... the amount a business owes to its suppliers for goods bought on credit
Trade Payable
What provides stakeholders with important info to help them assess both the profitability and liquidity of a business and help to improve their decision making
Accounting ratios
What is profit and what is its formula?
•Profit is the difference between revenue and total costs:
Profit = Revenue – (Costs of Sales + Expenses)
What is the formula for the Acid test ratio?
•Acid test ratio = CA - Stock / CL
... resources that a business owns and expects to use for more than one year. Eg land, buildings, machinery, vehicles
Non-current (fixed) assets
•refers to the amount of capital investment needed for a business to operate and provides an indication of how a company is investing its money
Capital employed
Other than profitability to monitor how well a business is performing, what else does a business need to manage to ensure its survival?
What do the following ratios show:
•Gross Profit Margin %:
•Profit Margin %:
the ratio between gross profit and revenue
the ratio between profit before tax and revenue
An acid test ratio of 1:1 is generally satisfactory
What happens if it is:
Lower...
Too high
•An acid test ratio of 1:1 is generally satisfactory
•If it is lower than this then there is a risk of the business not having enough cash to pay its short term liabilities
•If it is too high then cash is being tied up in unprofitable assets
... long term debts of a business eg. Long-term bank loans, mortgages and debentures
Non-current Liabilities
How can a business increase its ROCE
By increasing net profits without increasing or introducing new investment
Reduce the amount invested in the business by selling assets that do not contribute to profit
•A business must check its performance regularly as this helps to: (List 1 possible reason)
•Identify strengths & weaknesses so that it can decide which, if any of its policies or strategies need to be changed
•Show whether the business is meeting its objectives
•Improve future business performance
What does the ratio Return on Capital Employed (ROCE) show?
What is Adding Value?
the ratio between profit before tax and capital employed
selling a product for more than it cost to produce it
Why is it important for a Business's Current Assets to exceed its Current Liabilities?
•If this is not the case, the business runs the risk of having liquidity problems
•There is not enough cash coming into the business to pay short term liabilities and have spare cash for unexpected expenses
... is the amount of money that has been invested in the business by the owners. This includes capital & retained profits
Owner’s Equity
What is ROCE?
List/explain at least 3 points
•ROCE ratio shows profit before tax as a percentage of capital employed
•It tells us how much profit is earned for every $1 invested in the business.
•This ratio is the most used measure of efficiency and is often considered to be the most important way of analyzing a business’s profitability
Current Ratio:
As a general rule the current ratio must NOT be less than......:.... - otherwise , what might happen?
Also, It should also NOT be greater than ...:... WHY?
•As a general rule the current ratio must NOT be less than 1.5 : 1 - otherwise there is a risk of running out of cash
•It should also NOT be greater than 2:1 – since this suggests that the business has too much cash tied up in unprofitable assets
If a business wants to improve its GPM it can by:
•Increasing Revenue without a similar increase in cost of sales (eg an increase in price)
•Reducing the cost of sales without a similar decrease in revenue (eg buying cheaper supplies)
Explain the usefulness of a Business's Financial Data to the following stakeholders: a) Government b)Suppliers
Government (1), interested in ABCs profit (1), ABC will pay tax on profits and as these have increased government will earn higher tax revenues (1). Suppliers (1), increase in sales means increase in output (1), ABC will need more raw materials from suppliers, which increases their sales and profits (1)