TISBETN Business Students’ Revision Day Patana School 1 March Analysis of Published Accounts Presenter: Peter Masters (The Regent’s School) Name: _________________

What you need to know…. How to interpret (ie make sense of and analyse) the performance of a business using ratios. Alternative ways of measuring success (eg Market Share) You almost certainly will be asked questions on this part of the syllabus! It is EASY to do!!

The trap… Many students simply state that because a business is making a profit, it must be performing well! Not necessarily true! Eg Microsoft last year had sales of around $60 billion – I don’t think they would be happy at all with a profit of $10 000!! Stating that Microsoft is performing well would earn zero marks!! You must compare numbers with something else which is related to it.

The trap continued… Think of a class test: if you scored a grade A you may well think you are performing well. But…. If everyone else in the class gained an A*, suddenly you don’t look so great! So, we can always compare performance with another (similar!) business. And maybe all your other tests were A*. Suddenly an A is looking quite miserable!

To sum up… When analysing accounts, always use ratios! Make sure you compare your results with other similar businesses (where possible) And also compare with previous years / time periods (where possible) You must show understanding through your comments about the ratios!

Profit and loss account for Blimey Ltd (a manufacturing business) for the year ended 31 December ($000) Turnover Cost of goods sold Gross profit Marketing and admin expenses Net profit (before interest and tax) Interest Taxation Profit after interest and tax 50 (185) Dividends 20 0 Retained profits 30 (185)

Balance sheet for Blimey Ltd as at 31 December ($000) Fixed assets Current assets Stock Debtors Cash 10 5 Total current assets Current liabilities Creditors Overdraft Total current liabilities Net assets Share capital Profit and loss account Loan capital Capital employed

Profitability / Performance Ratios ( Don’t get confused between ratios and margins!) These measure how good the business is at turning its sales into profits. There are three: Gross Profit Margin = Gross Profit/Sales *100 Net Profit Margin = Net Profit/Sales *100 Return on Capital Employed (ROCE) = Net Profit / Capital Employed *100

Profitability Ratios for XYZ Ltd Gross Profit Margin = Calculation: 2008:2009: Comments: 1) ______________________________________________________________________________________________ 2) ______________________________________________________________________________________________ 3) ______________________________________________________________________________________________ Net Profit Margin = Calculation: 2008:2009: Comments: 1) ______________________________________________________________________________________________ 2) ______________________________________________________________________________________________ 3) ______________________________________________________________________________________________ Return on Capital Employed = Calculation: 2008:2009: Comments: 1) ______________________________________________________________________________________________ 2) ______________________________________________________________________________________________ 3) ______________________________________________________________________________________________

Liquidity Ratios These measure the ability of the business to pay its short term debts / liabilities. They are possibly the most important ratios for a business – if they cannot pay their debts, this liquidity crisis may result in the business being forced to close! Current Ratio: Current Assets / Current Liabilities Acid Test Ratio: CA – Stocks / CL (note that stock is subtracted as it is the least liquid of the current assets. This makes the acid test a tighter test of liquidity.)

Liquidity Ratios for XYZ Ltd Current Ratio = Calculation: 2008:2009: Comments: 1) __________________________________________________________________ 2) __________________________________________________________________ 3) __________________________________________________________________ Acid Test = Calculation: 2008:2009: Comments: 1) __________________________________________________________________ 2) __________________________________________________________________ 3) __________________________________________________________________

Working Capital This is, of course, very closely related to the current ratio. This is concerned with the difference between the business’ current assets and current liabilities (not the ratio). This will tell us whether the business has enough liquid assets (assets easily turned into cash) after all of its short term debts have been paid, to pay for all of its day-to-day expenses. Students often think you look at Sales to see how much money the business has. WRONG! Remember that sales in the P&L is how much the business gained from selling its G&S over a period of time (typically a year). We want to know how much cash (and other liquid assets) the business has now. This is in the Balance Sheet under ‘Cash’. The calculation is therefore CA-CL. Remember, as a general rule, there should be around 1.5 to 2 times as much CA as there are CL (the current ratio rule). Now, calculate the working capital for Blimey Ltd in 2008 and Answers: Comments: _________________________________________________________________

Other measures of performance Market Share If Toyota sells cars in Thailand in 2008 from total sales in Thailand of 1 million cars, its market share is 10%. If sales fall to in 2009 and total sales remain at 1 million cars, its share has fallen to 9%. WHY?? Maybe it lost market share due to the success of other companies (eg Ford) offering better cars, or maybe Toyota had quality problems and people are hesitant to buy a Toyota. It could be either internal or external factors responsible – either way, Toyota would be concerned! Most businesses want to increase market share as it is an indicator of success. Market share can also be calculated using the value of sales, not the number of sales (unit sales) as done above.

Some limitations of using ratios… The information is only useful if it is accurate and can be believed (creative accounting… - rubbish in, rubbish out) Just because a business performed well last year does not necessarily mean it will do so again this year Comparisons with other businesses are only useful if the businesses are very similar NOW GO AND DO AS MANY PAST PAPER QUESTIONS AS YOU CAN!!! GOOD LUCK!!