Analysing the Financial Performance of a Business Flashcards
All 28 cards in this deck
What are financial statements?
Documents that record a business's income, expenses, assets and liabilities so that stakeholders can assess performance and make informed decisions.
Name the two main financial statements a limited company produces.
The income statement and the statement of financial position (balance sheet).
True or false? Only public limited companies are legally required to produce financial statements.
False. Both private limited companies (Ltd) and public limited companies must, or they face sanctions such as fines.
Give one drawback to a business of producing financial statements.
They are time-consuming to prepare. They also make it hard to hide financial information from competitors and potential investors.
Name three groups of stakeholders who use a business's financial statements.
Shareholders, employees and suppliers (managers and potential investors also use them).
What is an income statement?
A financial document showing a business's financial performance from its income and expenses over a period of time, usually 12 months.
What is cost of sales (cost of goods sold)?
The variable costs incurred as a direct result of making a product or providing a service, e.g. raw materials.
What is the formula for gross profit?
Gross profit = revenue − cost of sales (cost of goods sold).
What is the formula for net profit?
Net profit = gross profit − total expenses.
What are the steps to work out net profit from an income statement extract?
e.g. revenue £500, cost of goods sold £200, total expenses £150- Revenue − cost of goods sold = gross profit: £500 − £200 = £300
- Gross profit − total expenses = net profit: £300 − £150 = £150
What is the formula for gross profit margin?
(Gross profit ÷ revenue) × 100, given as a percentage. It shows how much gross profit is made for every £1 of sales revenue.
What is the formula for net profit margin?
(Net profit ÷ revenue) × 100, given as a percentage. It shows how much net profit is made for every £1 of sales revenue.
What are the steps to calculate gross profit margin from an income statement extract?
e.g. revenue £200, cost of goods sold £50- Revenue − cost of goods sold = gross profit: £200 − £50 = £150
- (Gross profit ÷ revenue) × 100: (£150 ÷ £200) × 100 = 75%
What are the steps to calculate net profit margin from an income statement extract?
e.g. revenue £400, gross profit £200, total expenses £100- Gross profit − total expenses = net profit: £200 − £100 = £100
- (Net profit ÷ revenue) × 100: (£100 ÷ £400) × 100 = 25%
What does a fall in gross profit margin suggest, even when sales revenue has risen?
Cost of sales has increased faster than the price charged to customers.
True or false? The only way to improve gross profit margin is to increase selling prices.
False. It can also be improved by reducing cost of sales, e.g. using a cheaper supplier of raw materials.
What does the statement of financial position (balance sheet) show?
The overall value of a business at a particular point in time — its assets, liabilities and capital.
True or false? The statement of financial position shows how a business performed over the past 12 months.
False. It is a snapshot at one point in time; the income statement covers a period of time.
What is the difference between an asset and a liability?
An asset is something a business owns; a liability is something or money a business owes.
What is the difference between current assets and fixed assets?
Current assets are owned or last for less than a year (e.g. stock, cash); fixed assets are owned or last for more than a year (e.g. vehicles, buildings).
What is the difference between current liabilities and long-term liabilities?
Current liabilities must be repaid within a year (e.g. an overdraft or trade credit); long-term liabilities are repaid over more than a year (e.g. a mortgage).
What is the formula for working capital (net current assets)?
Working capital = current assets − current liabilities. It is the money available for the day-to-day running of the business.
Give two comparisons a business can make to judge its financial performance.
Against its own figures from previous years (to spot trends) and against competitors' figures.
Why are employees interested in a business's financial performance?
Large profits may mean pay rises or a share of profits, while consistent losses threaten their job security.
Why are suppliers interested in a business's financial performance?
To be sure they will be paid; they may adjust prices or credit terms depending on how profitable the business is.
A graph shows a business's number of sales falling each year. How does this help it forecast profit?
The sales trend may continue downwards, so lower sales mean less revenue, which will reduce profits.
True or false? When choosing between two options, a business should always pick the one with the higher gross profit margin.
False. A higher gross profit margin is only one piece of evidence — expenses, net profit margin and non-financial factors may point the other way.
Give two pieces of non-financial evidence a business could weigh alongside profit margins when deciding between two options.
Any two of: effect on staff motivation, brand image/reputation, customer satisfaction, the business's aims and objectives.