3.6

• Debt/Equity ratio analysis enables a business to calculate the value of a firm's liabilities and debts against its equity
• Efficiency ratios


  Measure of the financial stability of the business
• Efficiency ratios


  • Show how efficiently an organisation's resources have been used
  • Measure the amount of time taken to sell stock
  • Measure the average number of days to collect money from debtors
• How effectively a company uses its assets and handles liabilities
• Increase in debt/equity ratio means losing income to expense
• Decrease in debt/equity ratio is good for crop and stakeholders
• Stock turnover ratio


  Measures the number of times an organisation sells its stocks within a period, usually one year
• Stock turnover indicates the speed at which a business sells and replenishes all its stock
• Stock turnover calculation


  1. Stock turnover (number of times) = cost of goods sold/average stock

  2. Stock turnover (number of days) = average stock/cost of goods sold x 365
• Cost of sales is used rather than sales turnover as stocks are valued at the cost value of the inventory
• Benchmark for stock turnover


  • The faster the stock turnover rate, the better it is for the firm
  • The faster a business sells its entire inventory, the sooner stock can be replenished
• Pharmacy A stock turnover

  • 5 times (or 73 days)
  • 6 times (or 60.83 days)
• Pharmacy A must replenish its stock 5 times per year as it sells its entire inventory every 73 days
• Pharmacy B must replenish its stock 6 times per year as it sells its entire inventory approximately every 60 days
• Pharmacy B is the better performing firm, as its ability to turn stock into sales revenue is much greater than Pharmacy A
• Debtor days ratio


  Measures the number of days it takes a business, on average, to collect money from its debtors
• Debtors are customers who have purchased items on trade credit and owe money to the business
• Debtor days calculation


  Debtor days = debtors/total sales revenue x 365
• Debtors data is found on the balance sheet
• Sales revenue data is found in the profit and loss statement
• The less time it takes for customers to pay their debts, the better it is for the business
• Businesses may allow customers between 30 to 60 days credit
• Credit control


  An organisation's ability to collect debts within a suitable time frame
• A business is generally seen as having good credit control if it can collect debts within 30-60 days
• Pharmacy A debtor days

  • 15 days
• Pharmacy B debtor days

  • 73 days
• Pharmacy A takes an average of 15 days to collect monies owed by their debtors
• Pharmacy B takes an average of 73 days to collect monies owed by their debtors
• Pharmacy A is more efficient at collecting payments from their debtors
• Pharmacy B takes too long to collect payment
• Creditor days ratio


  Measures the number of days it takes, on average, for a business to pay its trade creditors
• Creditor days calculation


  Creditor days = creditors/cost of sales x 365
• Cost of sales is an approximation of the firm's total credit purchases
• Pharmacy A creditor days

  • 28 days
• Pharmacy B creditor days

  • 97 days
• Pharmacy A takes an average of 28 days to pay its outstanding debts to creditors
• Pharmacy B takes an average of 97 days to pay its outstanding debts to creditors
• Pharmacy A is more efficient at settling their creditors
• Pharmacy B takes too long to repay its suppliers
• Gearing ratio


  Used to assess an organisation's long-term liquidity position