Interpreting and comparing ratios
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All 25 Flashcards — Interpreting and comparing ratios
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Question
More marks: calculation or interpretation?
Answer
Interpretation and comparison — don't stop at the number, explain what it means.
💡 Hint
Interpretation > calculation
Question
What is trend analysis?
Answer
Comparing the same ratio across multiple years to spot if performance is improving or declining.
💡 Hint
Same ratio, many years
Question
What four things when commenting on a ratio change?
Answer
Direction (up/down), Magnitude (by how much), Possible causes (why), Recommended actions.
💡 Hint
Direction → Size → Why → Action
Question
Name three limitations of ratio analysis
Answer
Historical data, window dressing (accounts manipulated), non-financial factors ignored.
💡 Hint
Past, manipulated, incomplete
Question
Why is a ratio on its own meaningless?
Answer
Only useful when compared — with previous years, competitors, or benchmarks.
💡 Hint
No comparison = no meaning
Question
What is inter-firm comparison?
Answer
Comparing ratios with similar businesses in the same industry for relative performance.
💡 Hint
Your ratio vs competitors
Question
GPM dropped 45% to 38%. How to comment?
Answer
Fell 7pp — COGS likely increased (e.g. rising material prices). Should renegotiate with suppliers.
💡 Hint
7pp drop, investigate COGS
Question
What is the 5-step ratio approach?
Answer
Calculate → State → Explain → Compare → Recommend
💡 Hint
C-S-E-C-R
Question
Trend analysis shows ___; inter-firm shows ___
Answer
Trend = direction over time. Inter-firm = relative performance vs competitors.
💡 Hint
Direction vs position
Question
Why can't ratios predict the future?
Answer
Based on historical data — past performance doesn't guarantee future results.
💡 Hint
Past ≠ future
Question
How do external factors affect ratios?
Answer
Recessions, regulations, pandemics affect results but aren't captured in ratios.
💡 Hint
Economy, laws, shocks
Question
What does 'magnitude' mean for ratio changes?
Answer
The size of the change — measured in percentage points (e.g. 'fell by 7 percentage points').
💡 Hint
How big is the change?
Question
Name the 5-step ratio approach
Answer
Calculate → State → Explain → Compare → Recommend
💡 Hint
C-S-E-C-R
Question
How many years needed for good trend analysis?
Answer
At least 3 years — shows a meaningful pattern, not just year-to-year fluctuation.
💡 Hint
3+ years
Question
After stating 'GPM is 35%', what next?
Answer
Explain: '35 cents per dollar after COGS', then compare with previous years or competitors.
💡 Hint
Explain + compare
Question
Three things that limit ratio analysis?
Answer
Historical bias, window dressing, non-financial factors missed.
💡 Hint
Past, dressed, missing
Question
What is the final step in ratio interpretation?
Answer
Recommend action — what should the business DO to improve or maintain?
💡 Hint
What should they do?
Question
Why must inter-firm comparisons be 'like with like'?
Answer
Different industries, sizes, and methods distort comparisons — compare similar businesses.
💡 Hint
Same industry + size
Question
Why is one year's ratio unreliable alone?
Answer
One-off events can distort — need multiple years to see the real trend.
💡 Hint
Snapshot vs trend
Question
Why suggest CAUSES when analysing ratio changes?
Answer
Shows analytical thinking — explaining WHY it happened, not just describing the change.
💡 Hint
Why > what
Question
What must you always finish a ratio analysis with?
Answer
A recommendation — what should the business DO about it?
💡 Hint
Always end with action
Question
How many limitations to mention in evaluation?
Answer
2-3 shows excellent critical thinking and earns top mark bands.
💡 Hint
2-3 for top marks
Question
GPM of 20% — good or bad?
Answer
Depends on industry! Excellent in supermarkets (thin margins), poor in luxury fashion (high margins).
💡 Hint
Industry norms differ
Question
A ratio is improving but still below industry average. Good enough?
Answer
Not necessarily — both trend AND benchmark matter. Improving is positive but below average shows room for growth.
💡 Hint
Trend + benchmark both matter
Question
Commenting on changes: Direction + ___ + ___ + ___
Answer
Direction + Magnitude + Causes + Actions
💡 Hint
D-M-C-A
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Profitability and liquidity ratio analysis
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