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Unit 2 Business Resources M3 Interpret the contents of a trading and profit and loss account and balance sheet for a selected company explaining how accounting ratios can be used to monitor the financial performance of the organisation£3.29
Unit 2 Business Resources M3 Interpret the contents of a trading and profit and loss account and balance sheet for a selected company explaining how accounting ratios can be used to monitor the financial performance of the organisation
‘’Accounting ratios, or financial ratios, are comparisons made between one set
of figures from a company’s financial statement with another. ‘’Accounting
ratios are part of financial statement analysis, they are comparisons made with
some figures on the financial statement with another. They are used to
interpret the performance of the company and see whether the company is
improving or not. They are often used to compare the performance of one
business with another in the same industry as well as used to compare to the
company’s same ratio in the previous years, to see if the company’s
performance is improving. It can also help to predict if the business is in danger
of going bankrupt. There are many different types of accounting ratios:
Operating profit margin
One of the accounting ratios is operating profit margin. ‘’The operating margin
measures how much profit a company makes on a dollar of sales, after paying
for variable costs of production, such as wages and raw materials, but before
paying interest or tax.’’ This ratio is calculated by dividing the operating profit
by the revenue, and showing it as a percentage. The operating profit margin
shows how much profit a company makes for each £1 of sales, after paying for
the variable costs but before the tax and interest is paid. Companies’ profit
margin can be compared to their previous year’s margin; to see if is increasing,
as this shows they the profit is also increasing. The ratio can also be used to
compare to the other companies within the industry, to see if they are doing
better.
A high operating profit margin means that a business is stable and is able to
control their costs and is making a good amount of profit; it means they are
financially healthy. A low ratio means that the business is not financially
healthy; they are making a low amount of profit from each £1 they are making,
either because the expenses are too high or the prices for the goods or
services are too low.
Investors are one of the stakeholders that can use operating profit margin to
see the company’s profitability performance; they will be more likely to invest
if the margin is high. ‘’A higher operating margin is more favourable compared
with a lower ratio because this shows that the company is making enough
money from its ongoing operations to pay for its variable costs as well as its
fixed costs.’’ Cadbury’s operating profit margin ratio would be operating profit
which is 916 divided by the total revenue which is 6,738, and as expressed as a
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