3.5 Profitability & Liquidity Ratio Analysis
Profitability Ratios
Liquidity Ratios
Ratio Analysis
Efficiency Ratios
Liquidity Ratios
Profitability Ratios
Organisation earning more than paying out?
Organisation making best use of its resources?
Organisation have enough £ pay bills?
Why Ratio Analysis is Useful???
Compare current years performance with prev. years
Compare performance with competitors
Interpret info. to how to improve in future
Use info. for forecasting/budgeting
Provide info. to access finance sources
Assist in decision-making process
Profit is Absolute Measure BUT Profitability is Relative Measure
Measured with profitability ratios
P R O F I T A B I L I T Y
how profitable business is
measure overall performance
used to assess current performance of business, comparing to:
Past Records
Other similar businesses
Average PR of sector business operates in
Formulas: IMAGE 1
GPM
HOW TO IMPROVE BOTH GPM & PM (Ways -> Limitations)
GP = Sales Rev. - Cost of Goods Sold
Profit before indirect expenses accounted
Always % shown represents sales by GP
GPM Evaluation
GPM rising possibly because:
GPM falling possibly because:
Higher GPM the better
Increase in Production Costs
Decrease in price
Loss of stock - wasn't sold
Increase in products selling price
Increase in sales volume
Reduction in Production Costs
PM
Gross Profit - Indirect Costs = Profit
Shows % of sales represented by net profit
Higher PM the better
PM Evaluation
PM falling possibly because:
PM rising possibly because:
Increase in Production Cost = GP Decreases
Decrease in Price = Less Sales Rev.
Loss of Stock - not sold
Increasing Overhead Expenses/Indirect Costs
Increase in Products Selling Price = Inc. Sales Rev.
Inc. Sales Volume = Inc. Sales Rev
Reduction Production Costs = Inc. GP
Reduction in Overhead Costs
Increase selling price
Quantity sold may dec. -> no changes on sales rev. Depends price elasticity of product
Dec. cost of goods sold (so inc. GP)
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Dec. Overhead/ Expenses (only PM)
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