ratio analysis

Question 1

gearing ratio

Answer 1

non current liabilities/capital employed x 100

Question 2

capital employed

formula aswell

Answer 2

Total assets - current liabilities

looks at how burdened a business is by loans

Question 3

interpreting gearing ratios

Answer 3

ideal - 25-50%

highly geared - over 50% means they have loads of loans compared to capital so may be risky for creditors

Question 4

return on capital employed (ROCE)

formula

Answer 4

Operating profit / capital employed x 100

Question 5

interpreting ROCE

Answer 5

the higher, the better but also have to look at industry average roce and also compare with if capital was invested elsewhere (opportunity cost) so for investment to be worthwile, roce should be much larger than capital invested

Question 6

limitations of ratio analysis

Answer 6

• only useful if compared over time and with competitors
• only accurate if financial accounts are accurate
• balance sheet only shows snapshot at end of year but doesnt show circumstances throughout year
• ignores qualitative factors
• businesses can manipulate accounts to present different financial picture