Ratio Analysis - Calculations

Revision notes on ratio analysis for A2 Business Studies.

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  • Created on: 25-03-08 16:29
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Ratio Analysis
Acid Test
Measures the firm's ability to pay of their short term debts.
Total Current Assets ­ Stock
Current Liabilities
How to Improve it
Increase the amount of assets held in liquid form by cutting stock levels of selling
underused fixed assets
Lower the level of current liabilities by relying less on trade credit
Factors that will make it Worse
Expansion / growth place's a severe burden on a firm's cash flow.
Too few profitable investment options may cause a firm to operate with too much
cash ­ causing the ratio to be too high.
Measures the percentage of a firm's capital that is borrowed. The reliance on long term
liabilities as a source of finance.
Long Term Loans X 100
Capital Employed
How to Improve it
Reduce debt levels by paying back loans
Seek alternative sources of finance
Factors that will make it Worse
Excessive borrowing can push gearing up so high that the firm become vulnerable to
changes in interest rates
Asset Turnover
Measures a businesses sales in relation to the assets used to generate these sales.
Asset turnover = Sales (turnover)
Assets employed
How to Improve it
Close down underperforming branches or factories, this allows assets to be
transferred to areas that generate more sales. The higher a firms capacity utilisation
the stronger the asset turnover will be
Factors that will make it Worse
A downturn in trade will damage a firms asset turnover
Anything that will cause the firms capacity utilisation to fall will have a detrimental
affect on this ratio e.g. excessively rapid expansion.
Stock Turnover
Measures the number of times a firm gets rid of its entire stock and replaces it per year;
the company's success it turning its stock into sales.

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Stock turnover = Cost of sales
How to Improve it
Reduce stock levels, perhaps invest in more efficient stock control techniques.
A switch to JIT would increase a firms stock turnover but cannot be done overnight
Factors that will make it Worse
Buying items that are no longer wanted in the market.
Firms must be careful to avoid heavy stock piling of items nearing the end of their
life.…read more

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Return on Capital Employed
The return on money that was invested into the business.
Return on Capital Employed = Operating Profit X 100
Capital Employed
Factors that will Improve it
Increased profit levels using the same capital employed
Generate the same level of profit while paying off loans or returning money to
Factors that will make it Worse
Difficult economy conditions, this tends to be a result of falling profit generally
down to lower sales.…read more


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