Evaluating a businesses performance

• 1. INTERFIRM Between different firms, e.g, comparing the performance of two different house builders.
  2. INTRAFIRM Within the firm, e.g. comparing this year’s results with last year’s, or the performance of different branches of a retail store.
  3. STAKEHOLDER Anyone with an interest in the activities of a business, whether directly or indirectly involved.
  4. BUSINESS 2 BUSINESS B2B – refers to when one business sells to another business. e.g. Wholesaler to retailer.
  5. BUSINESS 2 CONSUMER B2C – refers to when one business
• Gross Profit Margin %


  The percentage of Sales Revenue that is profit. A good indicator of how effectively the business has 'added value' to the cost of sales.
• Gross Profit Margin %


  • The higher the better but industry dependent
  • Review trends & analyse how much is spent on cost of goods sold
• Mark-up


  Looks at profit as a % of sales turnover.
• Net Profit Margin %


  AKA Operating profit. Compares operating profit with revenue. This includes overheads.
• Net Profit Margin %


  • The higher percentage the better
  • Shows whether the business have been efficient in controlling expenses
• Gross profit rises and net profit margin declines

  Profits are rising but the overhead expenses are increasing at a faster rate
• ROCE %


  Primary ratio. Measures and analyse a company's profitability and the efficiency with which its capital is employed.
• Capital employed


  Total value of all LT finance invested
• ROCE %


  • Higher the value the greater the return on capital invested
  • Can compare with other companies and/or previous years
  • Compare with current rate of interest in terms of shareholder return
• Current ratio


  A liquidity ratio that measures a company's ability to pay short-term and long term liabilities
• Current ratio


  • Example - current ratio of 2 would mean that the business has 2 times more current assets than current liabilities
• Recommended current ratio


  • 1.5-2.0
  • Depends on industry
• Acid test


  Examines the business's current liquidity position by comparing current assets and liabilities without stock as it is hard to sell without a loss in value
• Inventory turnover


  Measures the number of times per year a business sells and replaces its inventory (stock)
• Inventory turnover


  • The higher the number, the more efficient but industry dependent
  • May suggest JIT (just-in-time)
  • No normal, fish retailer higher than car dealer
  • Service industry not relevant
• Trade receivables days


  Measures how long it takes the business to recover payment from customers who have bought goods on credit (trade receivables)
• Trade receivables days


  • The shorter the period, the better management control
  • Industry and business dependent
  • Shorter credit terms could be given to improve the figure
• Trade payables days


  How long it takes a firm to pay for goods & services bought on credit, expressed as a number of days
• A business that wants to maximise its cash flow


  Should take as long as possible to pay its bills
• Taking more time than is permitted by the terms of trade with the supplier


  Risks include loss of supplier goodwill and potential threat of legal action or late-payment charges
• LIMITATIONS OF RATIOS

  1. One result not helpful – comparison across time periods or business
  2. Industry comparison is most useful but using the same month/year
  3. Need to consider external factors
  4. Take caution with assets being used and depreciated using different methods
• Gross Profit margin is Gross profit/Revenue X100
• Mark up is (Gross profit/ Cost of sales) X 100
• Net Profit margin is Net profit/Revenue X 100
• ROCE is Operating profit/Capital employed X 100
• Current ratio is Current assets/current liabilities
• ACID test is (current assets - inventory) /current liabilities
• Trade recivable days is (Trade receivables/credit sales) X 365
• Trade payable days is s. (Trade payables / credit purchases) X 365