2. Profitability Ratios
These ratios are calculated
using the Profit & Loss:
Gross Profit as a Percentage of Net Sales
Net Profit as a Percentage of Net Sales
Rate of Stock Turnover
3. Gross Profit as a Percentage of Net Sales
The GP Percentage is used to calculate
what the gross profit is in relation to the
sales of a business.
The GP Percentage on turnover is
calculated using the formula:
Gross Profit x 100
Net Sales
(Remember sales - sales returns = net
sales).
4. Reasons for gross profit DECREASE?
Cash losses: theft or wrong amounts being
rung up on the till.
Stock losses: theft of stock by employees
or passing of stock to friends.
Expenses: Utilities can increase such as
gas and electricity prices.
Mark downs: Reductions in selling price.
Damaged or almost out of date goods.
5. Gross profit to INCREASE.
The gross profit can
increase. A rise in the
gross profit percentage is
almost always due to
increased efficiency.
6. Rate of Stock Turnover
The Rate of Stock Turnover is very
important. When a company turns over
stock - profit is made.
Stock has turned over when it has been
sold and replaced with new stock.
The higher a company turns over stock the
greater the profits should be.
Stock Turnover is always expressed as a
number followed by the word times.
7. If your Rate of Stock Turnover is 4 times
then the company would have turned the
stock over every 3 months.
We calculate the Rate of Stock Turnover
with the following formula:
Cost of Goods Sold
Average Stock *
* To calculate Average Stock
Opening Stock + Closing Stock
8. Net Profit as a Percentage of Net Sales
The Net Profit Percentage indicates how
well a business has controlled their
overheads.
The Net Profit is calculated by deducting
the total expenses from the gross profit.
We calculate the Net Profit Percentage of
Net Sales with the following formula:
Net Profit x 100
Turnover
9. If there is little difference
between the gross and net
profit percentages this
indicates that the business
has been able to control its
overheads efficiently.
10. Balance Sheet Ratios
Return on Capital Invested
Working (Current) Capital Ratio
11. Return on Capital Invested
The most important ratio calculated by the
owner of a business.
Return on Capital Invested compares
profit earned in the year with the capital
invested in the business.
A good Return on Capital is essential to
any business.
12. Poor returns on capital should make the
owners or partners think whether
continuing with the business is a good
idea.
To calculate the Return on Capital
Invested we use the formula:
Net Profit x 100
Capital at Start
13. Working (Current) Capital Ratio
The Working Capital Ratio or Current
Ratio focuses on the relationship between
a businesses current assets and current
liabilities.
The formula to calculate this ratio is:
Current Assets
Current Liabilities
14. A business must never run short of
working capital.
This is a very popular cause for business
failures.
If a business has a ratio of less than 1:1
then in effect it is insolvent.
Low ratio indicates a lack of working
capital.
High ratio indicated there may be too
much working capital. Too much money
tied up in stock or other assets.
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