Ratio Analysis

Ratio Analysis

1. Gearing

   • what proportion of equity (business worth) comes from long term debt
   • Over 50% is hilighy geared and under is low gearage
   • High Gearing causes problems
     • If intrest rates rise the company will be effected by significant extra costs
     • Puts investors off
       • As it is unlikely that there will be high dividen payouts
         • As the firm has to pay its creditors
       • Can also suggest that the firm does not make enough profit to fund its own growth
   • Low Gearing can be bad
     • It can show that the firm is not willing to grow
       • As to grow the firm is likely to need outside investment/loans

2. Current Ratio

   • current assets/current liabilities
     • Shows investors/banks the capability of the firm to pay back
     • To be good there should be more current assest than liabilities
       • Therefore if the firm needs to make a payment it can
       • However, too high can show ineficency
         • Should be converting it into non-current assets

3. Efficancy ratios

   • payable days
     • The typical time it takes for a business to pay its creditors
       • Avoiding paying for as long as possible is good for cash flow
         • Too long can look bad for potential investors
           • As they want their cash/capital back as soon as
   • Receivable days
     • The typical time it takes for a frim to receive payments
       • If it is too long it can lead to cash flow and liquidity problems
         • For example if it is longer than payable days
   • Stock turnover
     • How many times a year stock is changed
       • Higher is generally better as it shows the product is popular
         • However, a firm could have better and larger storage facilities meaning they have lower turnover

4. ROCE

   • Every year what percentage of capital invested does the investor get back
     • Typical range is around 20-30%
     • To improve the firm could make higher opperating profit without employing more capital
       • Therefore, it is a good measure of how profitable the firm is
   • Shows the investors the likely gains they will make for investing
     • Shows the effectivness of the firm in turning capital invested into profit
       • If a firm wants to be proffitable having a high ROCE would be beneficial
       • Which shows good management of a firm