F108MAN PART B

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Ratio Analysis Liquidity (current asset and Acid t

Liquidity Ratio the ability to turn stocks into cash quickly (at their true value)

Current Asset = current asset/current liabilities

Acid test = current asset/current liability - stock

normal ratio is 2:1 results may be misleading especially where a creditor payment is due or in some industries it is not uncommon for the ratio to be less. it may signify serious financial position especially if there is a high degree of stocks

hence Acid test

better measure of firms immediate liquidity position due to the fact that it may be impossible to turn stocks into cash.

conversly if there is a high ratio it may indicate that too much capital is tied up in stock

norm is suggested as 1:1 and the same contridictions apply as above

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Ratio Analysis Profitability ROCE Gross/Net Profit

How much profit the firm has made in relation to size/ how much capital is invested

To establish Capital Employed Total assests/current liabilities

ROCE = Profit before interest and taxation/Capital Employed x 100

How profitable the company has been in relation to what is used to finance it

Gross Profit = Gross profit/Sales x100

Trading success

Mark up = Grossprofit/cost of goods sold x 100 complements

reduced to stimulate activity which may increase volume of sale

Net Profit not an effective way of comparing firms as varying finacial arrangements

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who uses the information: Profitability Ratio Anal

The results are industry specific; establish industry norms prior to comparisons

ROCE,(if steady growth is shown) , mark up, GP/NP and asset turnover useful for investors

State of economy when assessing poor performance GP performance, likely to expect a cut in administrative expenses and reduced mark up ratio if recession

increased profits will show an improving market increase in efficiency

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Efficiency Stock turnover fixed asset turnover Tra

Working capital efficiency

creditor and debtors time to pay correlation to liquidity creditors time to pay is high and increaing it may have an adverse affect on the firms ability to pay

poor liquidity may impact the firms ability to pay its creditors which may be indicated by increase in days taken to pay.

if the creditors are allowed more time it indicates a inefficiency in credit control procedures: without careful control can lead to cash flow problems

Stock turnover: increase in stock holding may indicate falling sales

Fixed asset turnover accounting policy investment in fixed assets is paying off. however it is a net book value, falling sales can be offset by depreciation of fixed assets

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Gearing Ratio

Debt:equity Ratio

High debt to equity ratio gives the impression of a risky entity, however this is not uncommon in the construction industry.

high debt levels indicate it is funded by long term loans which is riskier

reduces the ability to secure future loans (if required in the future)

Interest cover

area of strength if profits sufficiently cover interest payments

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Balance Sheet and Profit & Loss

P&L indicates income v. expeniture over the year

Balance sheet tells the reader where the money has gone

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Ratio analysis considerations

consider year on year inflation

Accounting policy can have considerable effect

Age of assets can influence results regarding book value of assets

asset turnover will indicate if too much capital is held in stock, which could be earning money for the organisation

any large holdings of cash may be used to make payments due

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Investment ratios

Dividend yield the percentage return on his investment, dividend of the share/market price

Earnings per share (EPS) between one years earnings and another relating to something tangiable ie shares in issue

Price to earnings (P/E)ratio multiple of earnings how long it would take to pay back market value (same sector analysis only)

High ratio is good, shares are in demand so price will be high

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Risk

Business Risk will affect companies shares

Unsystematic risk (specific) to the industry

Systematic Risk faced by all companies War, recession, interest rates

an investor with a highly diversified portfolio will be able to ignore unsytematic risk

Companies with high financial  gearing are (high debt levels) riskier, an increase in equity will reduce that risk

A company with fixed costs are high risk as those costs are always payable

foreign ventures are riskier, transaction and political

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