This document discusses various accounting ratios used to evaluate business performance. It describes profitability ratios like gross profit percentage and net profit percentage, which are calculated using the profit and loss statement. It also discusses balance sheet ratios like return on capital invested and current (working capital) ratio, which analyze capital efficiency and liquidity. Specific formulas are provided to calculate each ratio along with guidelines for interpreting the results.

1. Accounting Ratios
S4 Accounting

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Damaged or almost out of date goods.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.