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OCR Cambridge TEC - Level 3
Certificate/Diploma Business
LO4 - Be able to interpret financial
statements
Learning Outcome (LO)
The learner will:
1
Know how human
resources are
managed
Pass
The assessment criteria are the pass
requirements for this unit.
The learner can:
Merit
For merit the evidence must
show that, in addition to the
pass criteria, the learner is
able to:
P1
Describe the recruitment
documentation used in a
selected organisation
M1 - Analyse the
recruitment documentation
of a selected organisation
P2
Describe the main employability
and personal and
communication skills required
when applying for a specific job
role
2
Know the purpose
of managing
physical and
technological
resources
P3
Describe the main physical and
technological resources required
in the operation of a selected
organisation
3
Know how to
access sources of
finance
P4
Describe sources of internal and
external finance for a selected
business
4
Be able to
interpret financial
statements
P5
Interpret the contents of a
trading and profit and loss
account and balance sheet for a
selected company
Scenario
Criteria
Tasks
1
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M2 - Analyse the
advantages and
disadvantages of a range of
different sources of finance
for a selected business
7
8
Assessment
Distinction
For distinction the
evidence must show
that, in addition to the
pass and merit criteria,
the learner is able to:
D1 - Evaluate the best
source of finance to
meet the needs of a
selected business



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LO4 Be able to interpret financial statements
Tutors will need to spend time explaining the two financial documents
to learners. Learners could then use the trading and profit and loss
account and balance sheet for two companies and undertake a
comparison of the documents for both companies. Whilst learners are
only required to use one company to meet the assessment criteria,
comparing two sets of documents may help to develop understanding.
Learners should be looking for both similarities and differences in the
values within the documents. They could decide which of the two
companies is in a better financial position, explaining their reasons.
For P5 - Learners could create a report for the financial director of a
selected company that interprets the contents of a trading and profit
and loss account and balance sheet for the company.
Guidance: Learners must use a company, not a sole trader or a
partnership.
Scenario
Criteria
Tasks
1
2
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Assessment
Focusing on a business, you need to provide evidence for the
following 4 tasks within this case study:
1. Profit and Loss Accounts
A.
B.
C.
D.
Budget Analysis
Costs and Budgets
Effective Management of Resources and Controlling Budgets
Profit and Loss Balance Sheets
2. Accounting Ratios
3. Monitoring Financial Situations

4. Ratios Evaluation of Profit and Loss
For this task you can either use the attached Profit and Loss
sheet or download your own.
Scenario
Criteria
Tasks
1
2
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8
Assessment

By law companies are expected to produce financial statements each year. These
statements appear in Company Reports which are accessible on demand,
specifically because suppliers need to know how their customers are doing in order
to maintain lines of credit. There are two main financial statements:
1.
The profit and loss account which we will concentrate on
2.
The balance sheet

The profit and loss (P&L) account - This account will be updated regularly, weekly,
monthly, daily according to the nature of the company, and shows how much profit
or loss a business is making. A profit can be made in several ways, for example:

From trading, in the case of a High Street shop, through EPOS or cash sales, i.e.
buying and selling items such as food, clothes and furniture from manufacturing,
shops, Online or supermarkets.

For example a company like Kraft produces chocolate bars and other foodstuffs. It
buys in raw materials such as cocoa and sugar which it processes to make
chocolate. All these provide companies on the chain with business and all business
is tracked through the Profit and Loss account.
Scenario
Criteria
Tasks
1
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Assessment

You have been given a budget to study by the manager of Mob Mentality to look at. They are
a new gadget shop operating now for 1 year, their stock is mobiles as well as technical toys.

Download the Excel Document called Unit 30 – LO4 - Company Spreadsheet - Click on the
“My Company Accounts” button which will generate a unique company accounts, which
needs to be printed. This will be the company accounts you will be using and referring to for
the remainder of this unit

Study the account generated to explain the following tasks:
P5.1 – Task 01 - Identify the possible causes and consequences of containing negative values.
Include in your analysis:

◦
any possible extra costs not taken into consideration
◦
why the company could suffer from this Profit and Loss account being wrongly
calculated
You may need the spreadsheet to work out how these values in the right hand column have
been calculated by looking at the formulas used.
P5.1 - Task 02 - Provide a summary of your analysis, giving possible reasons why you feel the
budget has not been achieved.
P5.1 - Task 03 - Explain in detail what can happen if costs and budgets are not monitored and
controlled.
Scenario
Criteria
Tasks
1
2
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Assessment
P5.2 - Task 04 - Provide an additional handout for the information pack evaluating
how business performance can be improved by effectively managing the
following:
 Controlling sales through effective stock management – Stock goes off, stock
goes out of date, stock reduces in value, overstocking and leaving a surplus a
company will sell for less is not good business practice.
 Stock control and effective resupplying – Getting in replacement good before
they run out so there is never a time when the customer has to wait for
delivery or a shop supply.
 Balancing repayments against company orders – paying back banks or
creditors before interest is accrued reduces down additional payments.
 Controlling budgets to maintain equity balance – Cutting back to maintain
balance, reducing staff at low times and increasing at peak, knowing when to
order and when to hold back, moving company, stock and people around to
reduce down outgoings or inflated department budgets where the workload
is less that it should be.
Scenario
Criteria
Tasks
1
2
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Assessment
Study the Profit and Loss and Balance Sheet you
saved and used during Task 1. All the values in this
column are varied and account for the major
Assets and outgoings of the company.
 Some of these values are intractable, rarely move
up or down like rent and wages, others vary from
month to month, sales supplies. Some can be
managed from others, cash can pay off loans,
company capital can contribute to the cash value
etc.
P5.3 - Task 05 - Explain the purpose of each element
within a Profit and Loss and Balance Sheet – use
screenshot as evidence and explain the values.
P5.3 - Task 06 - State whether the company is making
a profit or loss and how you came by that conclusion.

Scenario
Criteria
Tasks
1
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Assessment


Account Ratios are the formulas used by banks to decide whether to
loan money to companies. All banks are different and all ratios are a
judgement made on the quality and likelihood of a return on investment
by the bank or other creditors.
These ratios can be found in most textbooks on business finance. Such
ratios are often divided into the groups shown below;
◦ Solvency Ratios – How quickly a company can get hold of money, how
quickly assets can become cash in order to pay for something urgent.
◦ Profitability Ratios – How much the company is making compared to
its worth, or compared to its spending, current income rather than
potential income.
◦ Performance Ratios – How well a company is doing at repaying its
debts and managing its budgets. How well a company has been
getting through the month compared to how much it has to survive.
Scenario
Criteria
Tasks
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Assessment

The current ratio and quick ratio explained are examples of liquidity ratios – these measure how
well a firm is managing its working capital and how quickly it can get hold of capital. If
confidence is lost in the firm's ability to continue to trade, the creditors of the firm will ask for
their money back more quickly than they otherwise might.

For example, the bank might demand a reduction in the overdraft that the firm has and suppliers
might refuse to extend credit and demand cash payment when they supply raw materials - In so
doing this would mean that the current liabilities of the firm would be much reduced
◦ To meet these demands the firm would have to liquidate some or all of its current assets, by
selling off its stock and ask for the money it was owed by its debtors.
◦ They are unlikely to liquidate these assets at their full value as expressed in the accounts.
Therefor the firm would have to reduce the price of its products to sell off the stock quickly
and if it demanded repayment from its debtors it might have to accept payment with a
discount to compensate for the speed of repayment

As a general rule, the greater the current assets compared to the current liabilities, the safer the
firm should be. However, the more powerful the company the less relevant these ratios are.

Large firms will not have to repay short-term liabilities quickly, they will have the power to say
'no'. Small firms will not have this power and so, for them, these ratios might be a matter of
trading or collapse.
Scenario
Criteria
Tasks
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Assessment

Current ratio gives a measure of the short-term financial security of the firm. The current assets are
those that could be turned into cash in a short period of time, stock, vehicles, shares, and the current
liabilities are those liabilities which might have to be repaid at short notice, short term loans,
borrowed money etc.
◦ Therefore, the higher the level of current assets at hand in relation to current liabilities, the less
likely it is that the firm will be unable to meet its short-term concerns.
◦ It is often argued in the older textbooks that a current ratio of around two is desirable for a
company. In this way the business could liquidate its stock by selling it at half price, recall the
debts it is owed at short notice by allowing its debtors to pay half of what was owed and still have
enough money to pay off its current liabilities in full. However, most large firms these days have
current ratios which are significantly lower than this. For example, the big retailers might well
have current ratios of around one half.

This ratio might act in ways which seem to contradict the textbooks. For example, imagine that a
business is getting into trouble. If its suppliers know this they might ask for payment more quickly,
this would reduce the creditors or accounts payable in the balance sheet. Also, the firm could be
having difficulty selling its products so stocks might well increase, making its remaining assets
greater. In this case, the firm's current liabilities will be falling as its current assets are rising. So the
current ratio would be increasing even though the firm is becoming weaker and more likely to
collapse.
Scenario
Criteria
Tasks
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Assessment

Quick Ratio - A criticism of the current ratio is that stocks might be difficult to turn into
cash quickly. For example, some of the stocks might be in the form of work-in-progress
which takes time to turn into a final product. So these elements could not be sold at short
notice. Therefore, it is suggested that stocks should be removed from the current asset
figure in the consideration of short-term liquidity of the firm, hence the Quick Ratio. The
result is the ratio above.

The Quick Ratio is very similar to the current ratio, the only difference being the removal
of stocks
◦ The quick ratio is also known as the acid test ratio.
◦ Again it is often suggested in the older textbooks that a figure of around one is ideal
for this ratio. Manufacturing firms, which would have relatively illiquid stocks and
work-in-progress, might have quick ratios of around this figure. Retailers will often
have ratios which are considerably lower. Companies with large vehicle assets (Willi
Betz), large property values (Marks and Spencer’s), large amounts of machinery (Ford)
are likely to have good Quick Ratio figures.
Scenario
Criteria
Tasks
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Assessment
Times Interest Earned - The problem associated with “high gearing” is that the firm might not be able
to meet its interest payments if interest rates rise and profits fall.

In times of recession a firm with a low gearing ratio will merely declare a lower dividend and wait
for the economy to recover.

A firm with a high gearing ratio, even if it pays no dividends, might not be generating enough cash
to pay the interest on its debt. In this case the firm could be forced into liquidation by its creditors.

To measure this riskiness, the times interest earned ratio (sometimes referred to as interest cover)
is used. The higher the ratio the more times the interest payments are covered by the firm's profit.
◦ For example, if the firm is making £1000 profit before tax and interest and is paying £100 as
interest, its times interest earned ratio would be ten. This means that it is earning ten times the
interest payments it has to make. In this case interest rates could double so that interest
payments rise to £200 and profits fall to 20 per cent of their current level (i.e. to £200) and the
firm could still meet its interest payments. On the other hand if the times interest earned ratio
were only two, so that interest payments were, say, £500, then if interest rates doubled the
firm would have no profits left after paying its interest payments. So a slight fall in earnings
would be disastrous.
Scenario
Criteria
Tasks
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Assessment

Fixed Asset Turnover Ratio - Although this is often referred to as a turnover ratio, it is pointless to
talk about 'turning over' fixed assets. However, the ratio is a very useful one for measuring the
efficiency of the firm. The higher the level of sales generated by each 'unit' of fixed assets the more
efficient the firm might be thought to be.

The figure given for the ratio depends critically on the value of the fixed assets found in the balance
sheet. For example, consider two identical firms except that one has purchased the land on which its
factory stands recently and one purchased it a long time ago. As the land will be entered in the
balance sheet at cost, one firm will have a lower figure in its accounts than the other. The one which
purchased the land a long time ago will probably have paid less for it. Therefore, it will have a lower
level of fixed assets and a higher fixed asset turnover ratio. However, this is no justification for
arguing that it is more efficient.
◦ Often, these ratios are quoted as being 2 times or 4.5 times, rather than just simply as 2 or 4.5.
This recalls the idea of turning over stock two times a year, etc. but here the word 'times' has little
significance.
◦ Web based companies will have a high figure if they are successful, the fixed assets are the
computers, their cost vs. the amount of generated revenue will make a high value.
Scenario
Criteria
Tasks
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Assessment

Total Asset Turnover ratio - This is a very similar ratio to the fixed asset
turnover except that total assets are used in the denominator.

As total assets in a company are equal to fixed assets plus current assets
the denominator of the fraction here will be greater and the corresponding
ratio will be lower than was the case with the fixed asset turnover ratio
above.
Again, like the fixed asset turnover ratio, care is needed in interpreting the
valuation of fixed assets in the accounts. Current assets can include shares,
where the value can fluctuate, premises if the premises is owned, and
vehicles.
For some companies, like Logistics, this is the bulk of the business, therefor
the return value will be less. If the value is less than 1 for instance the
company will struggle to use this ration to get money unless their sales
value is seasonally dependent.

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Scenario
Criteria
Tasks
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Assessment
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Return on Shareholders Funds Ratio - This ratio shows the profits to which the shareholders are
entitled (the numerator) divided by the total amount of money which the shareholders have
contributed to the firm (the denominator). This looks at the firm's performance purely from the
shareholders' point of view. The figures here are book values, that is they are the figures for equity
which would be found in the accounts.

These figures do not always have any close relationship with the market value of the shares of the
company. If the business is doing very well its share price will be high and so its actual equity value
in the market will be higher than that in the accounts.

For example, if a firm has issued share capital which has a nominal value of £2,000 and it has
retained earnings also of £2,000 the equity figure in the accounts will be £4,000. However, if the
business is doing very well and has good prospects the value of its shares on the stock exchange
might be, say, £16,000. Thus, anyone buying the shares would be entitled to the earnings but only
after having paid four times the book value of the equity. Thus, the actual return on shareholders'
funds would be one quarter that given by the equation above.

Alternatively, if the firm is doing badly, the market value of its equity might only be £1,000. In this
case, anyone buying the shares in the company would only have to part with a sum of money equal
to half the book value. The ROSF in this case would be twice that given in the equation. This ratio is
also known as the Return on Equity or ROE.
Scenario
Criteria
Tasks
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Assessment
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As most companies‘ aim is to make profits it follows that the most
important ratios to analyse are the profitability ones. However, these
ratios tend to be less diagnostic than those looked at earlier. The
reason is that, if a firm is making poor profits and has low profitability,
the reason will probably lie in areas such as its operating methods, and
this will show up in ratios such as the turnover ratios defined above.
Thus, profitability ratios give the overall performance of the firm.
But the other ratios described above will offer a more detailed look at
the individual elements of a firm's activities.
As with many ratios, different sources give slightly different definitions.
For example, sometimes net profit is used and sometimes gross profit
is employed in the calculation of the figures.
Importantly, these ratios will depend on the competitive environment
of the firm. If the firm is in a highly competitive market its profitability
ratios will be relatively low. On the other hand, if the firm is a
monopoly or is selling a unique product or serving a niche market, its
profitability ratios will be less affected by competitive pressures and so
ought to be relatively higher.
Scenario
Criteria
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Assessment



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In this ratio the numerator contains every liability which is not equity. That is to
say it will include:
◦ Current liabilities and long-term debt.
◦ Share capital and the reserves accumulated under retained earnings.
Therefore, if half of the assets are funded by equity and half by debt, this ratio
will equal one.
In some definitions of this formula the numerator contains only long-term debt,
current liabilities being excluded. In either case, the higher the ratio the higher
the level of debt compared to equity.
The ultimate goal with this figure is to make it lower, and to do this with less
shareholder intervention as possible. For instance writing off or lowering the
debt or increasing the equity. Shareholders prefer the former, banks prefer the
latter as it shows that a company is capable of paying back debts whish raises
their credit rating.
Scenario
Criteria
Tasks
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Assessment

Debt Ratio - This is similar to the debt to equity ratio except that the numerator is total
liabilities rather than just equity.

The numerator could equally be total assets, the result would be the same. This ratio shows the
proportion of total liabilities that comprises debt, loans, HP, Leases etc. Similarly, it shows the
proportion of total assets that are funded by debt rather than equity. In this case, if half the
assets in the firm are funded by equity and half by debt the ratio will be one. The reason is
simply that the denominator, total liabilities, will be half equity and half debt. Again, the higher
the ratio the higher the level of debt compared to equity.

This ratio and the debt to equity ratio are obviously very
closely related. If TD is total debt, TE total equity, TA total
assets and TL total liabilities, the following is true.

Consider a firm with total assets of one million, a quarter of which are funded by debt and
three-quarters by equity. It follows that total liabilities will be one million, debt will be 250,000
and equity 750,000. The gearing ratio here will be equal to 250,000/1,000,000 or 25%. The debt
to equity ratio above will be equal to 250,000/750,000 or one third. Still good.
Scenario
Criteria
Tasks
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Assessment


Net profit Ratio - This ratio shows the proportion of the sales revenue that is profit. If the firm
makes sales of £1000 and of this £900 is accounted for by the costs of production, it follows
therefor that the profit margin will be 10%. It might seem that the term 'net' would mean that
the profit after tax should be used. However, here it means the profit after the costs of
administration and sales have been taken into account.
Gross profit margin refers to the gross profit made by the firm. This is equal to the turnover
minus the cost of goods sold where the costs of administration and distribution have not been
subtracted.



It might seem that the higher the ratio the better, but this need not necessarily be the case.
For example, a firm that is introducing a new product and attempting to gain market share
might well place a low price on the product in order to sell as much as possible. In this case,
the profit margin, in the short-term at least, will be fairly low.
Also, the profit margin will depend on the nature of the market niche in which the firm is
operating in. For example, a firm at the lower end of the market might be selling a relatively
low quality product with a low profit margin (Poundland, Costcutters, Officers Club) whereas a
firm at the top end of the market will be selling fewer units but at a higher price and with a
higher profit margin. This does not mean their net Profit margin rartion will be better, 100
products at 5p profit is more profit than 10 products at 25p profit.
Scenario
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Assessment
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Return on Capital Employed Ratio - The effectiveness of the assets that are
financed by the long-term lenders and shareholders is being assessed.
Therefore, the denominator consists of the long-term capital. The numerator is
operating profit as this shows the profit before the interest payments and tax
are paid.
For this ratio, the higher this ratio the better, but the points made concerning
the net profit margin should be borne in mind.
Things not taken into consideration for this is share values and seasonal
fluctuations. Operating profit for some companies changes, summer goods sell
better in June and July, Winter goods in December, companies with product
ranges or seasonal only products will have a varied Return on Capital throughout
the year.
For start-up companies the Operating profit will be low and liabilities will be high
making it difficult to borrow on this ratio.
Scenario
Criteria
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Assessment
Performance ratios show the ability of the firm to manage its basic activities
efficiently. They tend to relate assets to sales in some way and so, in general, the
higher the ratio the more sales are being generated by the firm for the level of
assets.

As assets have to be funded by some form of liability, e.g. debt, and debt has to
be paid for it follows that the more sales that can be generated from a given
level of assets, the greater the profitability of the firm. Therefore, as a general
rule, the higher these ratios the better, although there are exceptions to this.

For Start up companies this ratio is more trustworthy as it shows their current
performance against an overall debt, shows that they are managing their debts
and increasing their sales in that period of time when the bank trusts start ups,
the grace period.

As 80% of start ups fail in the first year, managing the performance against
debts is more common until profitability is used to further the company
beyond its original scope.
Scenario
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Assessment

Stock Turnover Ratio - This is a very widely used ratio, and refers to as the inventory turnover
ratio and inventories would appear in the denominator of the equation. The numerator,
COGS, refers to the cost of goods sold which is sometimes entered in the accounts under the
heading cost of sales.

This ratio shows the efficiency with which a firm manages it stock levels. Taking a simple set of
numbers, imagine that the COGS is £2000 and the level of stock is £200, the stock turnover
ratio as defined above will be ten times. What this suggests is that the stock is turned over ten
times in the year.

Taking the simple example of a retail firm, it is easy to imagine the stock being sold and
replenished, then sold and replenished again. The average stock level of £1000 would be sold,
or turned over, ten times in the year.

Imagine a company that runs its stock down smoothly (effective stock management). If the
average stock level is 1000 it follows that it buys in 2000 and runs this down to zero in the
course of trading. In this case the average stock level will be 1000, half the time the stock is
above this level and half the time it is below it. Thus the company will purchase stock five
times a year. The stock turnover ratio refers to the average stock level and so returns a figure
of ten.
Scenario
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Assessment

In some texts, sales or turnover are given as the numerator rather than COGS. The firm's sales or
turnover figure should be greater than the cost of goods sold as a profit margin would be added. If,
for example, the profit margin were 10% the sales figure would be £1,100, i.e. 10% higher than the
COGS figure.

However, it should be clear that the higher the stock turnover ratio the higher the level of COGS
will be and, therefore, the higher the level of sales, for a given level of stock. In general, firms will
attempt to increase this ratio, the quicker the stock goes out, the smoother the business. However,
a high stock turnover ratio implies a low level of stocks and this increases the possibility of a 'stock
out', that is a situation where sales are missed because the items are not in stock or cannot be
produced rapidly. In this case, a high stock turnover ratio might be detrimental to sales and profits.

The numerator of the equation is sometimes given as the average stock level which is usually
estimated as the average of the stock at the beginning of the year and the stock at the end of the
year. If the stock level has not changed very much over the year this formulation will be very similar
to that given in the formula on the previous slide. However, if a lot of stock has just arrived in
anticipation of greater sales in the future, the level of stock in the current accounts will now be
greater than the average over the year. The stock turnover ratio using the formula given here will
appear to be smaller than it actually is.

Recently a large number of companies have been introducing so-called just-in-time systems
whereby stock and raw materials are delivered to the factory just before they are needed. This will
increase the stock turnover ratio by reducing stock levels.
Scenario
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Assessment

This ratio, which is also referred to as “debtor days”, measures the length of
time required for the firm to get the money for the goods that it sells. The longer
this period is the longer the firm has to wait to sell the goods. This might be a
good thing if the firm is selling on credit. However, it might also be a sign of slack
management with bills not being followed up quickly and people paying the firm
very late.

To understand the ratio imagine that the firm sells £1000 worth of goods a day.
If customers are given ten days to pay, and all of them avail themselves of this
facility, it follows that the firm will have debtors of £10,000. At any moment in
time, there will ten lots of days sales owed to the firm, i.e. the debtors will be
ten times the average daily sales.
A higher figure infers more debtors and debts owed than sales being made,
causing a shortfall in currency within the company, for companies with debts
they owe, this can be bad as it could mean defaulting on repayments.

Scenario
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Assessment

The Days Sales Outstanding Ratio - The denominator of the fraction is sometimes given
as credit sales rather than just sales. However, if you are working with published accounts,
rather than within the business, it is unlikely that figures for credit sales will be available.
In this case there is no alternative but use the figure for total sales or turnover.

Sometimes the formula is written out as follows:

This is the same formula as the first one for days sales outstanding, the only difference
being the way in which average daily sales are presented. Multiplying by 360 and dividing
by total annual sales is the same as dividing the daily sales. Note that it is often assumed
in this types of analysis that there are 360 trading days in a year. Sometimes the number
365 will be used. The difference in the final figures arrived at is not important.

Either way this is more accurate on a daily scale than the previous formula as it considers
highs and lows of sales rather than a global approach.
Scenario
Criteria
Tasks
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Assessment
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Return on Total Assets Ratio - This ratio shows the return that is made on all of
the assets that the firm is using. The higher the ratio the better, bearing in mind
the comments made concerning the net profit margin on previous slides. Also,
the valuation problems associated with the asset figures in the balance sheet
should be borne in mind.
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This is a more straight forward method of working the performance of the
company. Through time the productivity of assets improves, companies get
faster, produce more, streamline production. Assets may not change but
productivity does and this improves profitability. This is a time based Ratio, and
is better used as a measure over a period than a current state measurement.
The higher the number the better, for online companies this is usually high as
Assets are reduced in value through time as profits increase. For companies
with land, this formula does not work as well as land value rises.
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Scenario
Criteria
Tasks
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Assessment
P5.4 - Task 07 – Using the table, calculate the Ratio results of
your Company’ Profit and Loss Spreadsheet..
Account Ratio Used
Ratio Quotient Result
Liquidity Ratios
Quick Ratio
Debt to Equity Ratio
Debt Ratio
Times Interest Earned
Stock Turnover Ratio
Fixed Asset Turnover Ratio
Total Asset Turnover Ratios
Days Sales Outstanding Ratios
Net Profit Ratios
Return on Total Assets Ratios
Return on Capital Employed Ratios
Return on Shareholders’ Funds Ratios
Scenario
Criteria
Tasks
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Assessment
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Debt ratios – these measure how well your company is handling its repayments to the bank
and the creditors. Banks need to know this so they can judge how well your company is at
managing its debt payments – called balance of payments or debt management.
Shareholders ratios are useful to a bank because they know how important the shareholders
are to a company who is share owned. This means they have an influence on your company
and can change they way you operate so keeping them happy can be more important than
running up debts or poor sales.
Profit ratios – banks like these because it shows how stable your company is in making
money. Managing the profits and allocating them to expansion, and more importantly
paying back the bank the money you owe, is important to them. They will lend you money if
they know you can pay it back out of profits.
Turnover Ratios – Cooperative and small banks prefer this when basing loans on it because
it means your company is liquid, it changes stock quickly, or poorly then the bank will be
willing or unwilling to lend money because you do or do not have assets you can get rid of
quickly in order to pay back the loan.
Quick Ratios – The most common ratio banks will use – used to get a small loan up £40,000
but not more as it only analyses assets and liabilities. Chances of them giving you a loan if
this figure is around or less than one is remote, even for a small loan. If you are below one,
then your assets are not capable of paying off your liabilities, means if the company
defaults on the loan the assets they seize will not pay back the debtors.
Current Ratios – The same as quick ratios but does not take into consideration the stock
that is in because of the company are unable to sell it, then the chances of the bank doing it
are even more remote.
Scenario
Criteria
Tasks
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Assessment
Solvency – 2 appropriate ratios needed, 1 per slide, such as:
Return on Shareholders’ Funds
- The higher the number the better.
Total Asset Turnover
- The higher the number the better.
Fixed Asset Turnover
- The higher the number the better but too
high is bad.
Times Interest Earned
- The higher the number the better.
Quick
- The higher the number the better.
Current
- The higher the number the better.
Profitability – 2 appropriate ratios needed , 1 per slide, such as:
Return on Capital Employed
- The higher the number the better
Net Profit - The higher the number the better 1 is breakeven.
Debt
- The lower the number the better.
Debt to Equity
- The lower the number the better.
Performance – 2 appropriate ratios needed , 1 per slide, such as:
Return on Total Assets
- The higher the number the better
Days Sales Outstanding
- The lower the number the better
Stock Turnover
- The higher the number the better.
Scenario
Criteria
Tasks
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Assessment
Using the previous two slides, you will need to understand from your
spreadsheet whether the ratio calculated is good or bad for your company.
Using 6 ratios, 2 from each category, you need to present this information to
the client. This should include:
◦ an explanation of the ratio
◦ an explained ratio result
◦ what this means for your company in terms of borrowing money from a
bank.
P5.4 - Task 08 - Illustrate the financial state of your analysed start up business by
using accounting ratios.
a) Use 6 different ratios to calculate:
◦ Solvency – 2 appropriate ratios needed, 1 per slide
◦ Profitability – 2 appropriate ratios needed , 1 per slide
◦ Performance – 2 appropriate ratios needed , 1 per slide
b) On a second slide each, show your calculations to demonstrate how you have
arrived at your answers.
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Scenario
Criteria
Tasks
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Assessment
P5.1 – Task 01 - Identify the possible causes and consequences of containing negative
values.
P5.1 - Task 02 - Provide a summary of your analysis, giving possible reasons why you feel the
budget has not been achieved.
P5.1 - Task 03 - Explain in detail what can happen if costs and budgets are not monitored
and controlled.
P5.2 - Task 04 - Provide an additional hand-out for the information pack evaluating
how business performance can be improved by effectively managing the following:
P5.3 - Task 05 - Explain the purpose of each element within a Profit and Loss and
Balance Sheet – use screenshot as evidence and explain the values.
P5.3 - Task 06 - State whether the company is making a profit or loss and how you
came by that conclusion.
P5.4 - Task 07 – Using the table, calculate the Ratio results of your Company’ Profit
and Loss Spreadsheet.
P5.4 - Task 08 - Illustrate the financial state of your analysed start up business by
using accounting ratios.
Scenario
Criteria
Tasks
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2
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Assessment