3.5 Profitability and liquidity ratio analysis

Profitability ratios

Shows a company’s profit concerning other financial figures,

Strategies to improve GPM

• Diversification

• Outsourcing

• Increasing prices

Liquidity Ratios

Measures a company’s ability to cover its short-term debts

Liquidity

Ability to convert current assets to cash

Insolvent

Situation where the business is unable to pay debts

Lease back

Selling an asset and hiring another instead

Acid test (quick) ratio

Business’s ability to pay its short-term debts

Strategies to improve PM

• Promotion

• Outsourcing

• Lowering expenses

Strategies to improve ROCE

• Develop products (to raise prices)

• Reduce expenses

• Invest in new, more efficient tech

Strategies to improve ratio(s)

• Increase sales

• Lengthen creditors

• Shorten (or no) debtors

Problem if there is a drastic difference between GP and PM

Expenses are too high

Current ratio and/or Acid test ration need to be:

• More than 1

• Accountants advise for current rations to be between 1.5 and 2.0