These notes include information about various stakeholders and interest in financial statements of a company as background information. These notes are suitable for both IEB and NSC matrics.
These notes also provide each and every financial ratio that is assessed in the Grade 12 final exam with ste...
Analysis and Interpretation of Financial
Statements:
Who is interested in the financial statements?
Shareholders- want to know how much profit the company has
earned this year and how it compares to last year and how it
compares to other companies. They want to understand why the
dividends are larger/smaller than the previous year. This helps
them to decide if they want to keep their shares, sell them or buy
more.
Prospective shareholders- Members of the general public who
have money to invest will study the financial statements and the
return offered (compared to the interest rate of other financial
assets/institutions e.g. a fixed deposit or a bank) to see if they
want to invest. They will also read the reports issued by the
auditors and directors to ensure that the company is honest in its
dealings.
Long-term loan holders e.g. mortgage bond owners- study the
financial statements to ensure that the company is solvent
enough to pay the loan and respective interest back.
Auditors- they are interested in the overall fair presentation of the
financial statements. (i.e. are there large
errors/discrepancies/signs of fraud?)
Short-term creditors – they are not only interested in the
profitability, but the liquidity (i.e. can the business pay off all
current liabilities?)
The bank – the institution needs to know that any overdraft
facilities it has offered the company is secure.
South African Revenue Service (SARS) – It will check that the
information in the financial statements agrees with the
declarations on the company’s income tax return, and use this
comparison to assess how much tax the company must pay on
its profits.
1
,Financial Indicators/Formulae
How to write a comment on a financial indicator:
Calculate the financial indicator
Compare the indicator result to the previous year/norm/another
alternative
Conclude…. improve/decrease etc.
Possibly suggestions/recommendations if the question asks.
Financial Analysis:
1. Profitability:
How profitable is the business? How well does it control its
expenses? How efficiently is it operating?
2. Return:
Are the owners (shareholders) earning a good return on the
capital invested?
3. Liquidity:
Can the business pay off its immediate debts?
Has the business handled its working capital efficiently?
4. Solvency:
Can the business pay off all its debts?
5. Risk/Gearing:
What is the extent to which the company is financed by
borrowed funds? How does this affect the degree of
financial risk? NB- can they pay back interest on loan as
well?
1. Analysis of operating efficiency/ profitability
A) Gross profit on sales:
𝐺𝑟𝑜𝑠𝑠 𝑃𝑟𝑜𝑓𝑖𝑡
𝑆𝑎𝑙𝑒𝑠
x100
Shows the percentage gross profit earned every time the
company sells stock (profit margin)
Must be high enough to cover all operating expenses, as
well as interest and tax.
2
, B) Gross profit on cost of sales
𝐺𝑟𝑜𝑠𝑠 𝑃𝑟𝑜𝑓𝑖𝑡
x 100
𝐶𝑜𝑠𝑡 𝑜𝑓 𝑆𝑎𝑙𝑒𝑠
This is the actual mark up that was used throughout the
financial year.
Compare to intended mark up.
Why would the intended mark up be different to the
actual mark up?
The company has a sale and marks down certain
prices.
The company advertises that it will meet the price of
any competitor
Discounts are allowed
Miscalculations
The selling price was marked incorrectly and these
goods were sold at this incorrect price
C) Operating expenses on sales
𝑂𝑝𝑒𝑟𝑎𝑡𝑖𝑛𝑔 𝐸𝑥𝑝𝑒𝑛𝑠𝑒𝑠
x 100
𝑆𝑎𝑙𝑒𝑠
What percentage of the selling price is being used to cover
operating expenses?
Compare to last year to see if expenses are being efficiently
controlled
Keep the inflation rate in mind- operating expenses should not
have increased by more than the inflation rate.
Make suggestions/recommendations on how to control
expenses more efficiently. E.g. cut down on electricity wastage,
source cheaper suppliers of consumable stores and packing
materials.
D) Operating profit on sales
𝑂𝑝𝑒𝑟𝑎𝑡𝑖𝑛𝑔 𝑝𝑟𝑜𝑓𝑖𝑡
x100
𝑆𝑎𝑙𝑒𝑠
What percentage of the selling price is retained as
operating profit?
Compare it to last year to see the trend
3
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