ACCA Applied Knowledge · Financial Accounting

Analysis of financial statements: formula sheet

Full chapter guide

Key formulas

Ratio: Ratio = Figure A ÷ Figure B (or expressed as a percentage); A ratio is only useful when compared with something: prior years, competitors, industry averages or targets.
Percentage change (trend): Change % = (Current year − Prior year) ÷ Prior year × 100; Use the prior year as the base. Do not divide by the current year.
Common-size percentage: Item % = Item ÷ Base figure × 100; Base is usually revenue for the statement of profit or loss and total assets for the statement of financial position.
Three comparison bases: Over time | Against other entities or industry | Against budget or target; Name the basis you use when you comment.
Gross profit margin: Gross profit ÷ Revenue × 100; Gross profit = Revenue − Cost of sales.
Operating profit margin: Profit from operations ÷ Revenue × 100; Use profit before finance costs and tax. Check the question's definition if it gives one.
Net profit margin: Profit for the year ÷ Revenue × 100; Only use if the question asks for it. Check whether it wants profit before or after tax.
Return on capital employed (ROCE): Profit before interest and tax ÷ (Total equity + Non-current liabilities) × 100; Capital employed equals total assets less current liabilities. Use the closing figure unless told to average.
Return on equity (ROE): Profit after tax ÷ Total equity × 100; Equity includes share capital and all reserves. Preference shares are often treated as debt, so follow the question.
ROCE split into two parts: ROCE = Operating profit margin × Asset turnover, where Asset turnover = Revenue ÷ Capital employed; Shows whether a ROCE change comes from margin or from how hard assets are worked.
Current ratio: Current assets ÷ Current liabilities; Shown as a ratio, e.g. 1.8 : 1, or as a number such as 1.8 times.
Quick ratio (acid test): (Current assets − Inventory) ÷ Current liabilities; Current assets are inventory, trade receivables, cash and similar items.
Inventory days: Inventory ÷ Cost of sales × 365; Use cost of sales, not revenue. Some questions use average inventory, so read the wording. Some use 360 days or months if told.
Receivables days: Trade receivables ÷ Revenue × 365; Use credit sales if given. Otherwise use total revenue.
Payables days: Trade payables ÷ Cost of sales × 365; Use credit purchases if given. Otherwise use cost of sales.
Working capital (cash) cycle: Inventory days + Receivables days − Payables days; A shorter cycle means cash is tied up for less time.
Net asset turnover: Revenue ÷ Capital employed (times); Capital employed = total assets − current liabilities = equity + non-current liabilities. Use the figure the question states.
Non-current asset turnover: Revenue ÷ Non-current assets (times); Use carrying amounts from the statement of financial position.
ROCE: Profit before interest and tax ÷ Capital employed × 100%; Capital employed is equity plus non-current liabilities.
Operating profit margin: Profit before interest and tax ÷ Revenue × 100%; Use the same profit figure as in ROCE.
ROCE link: ROCE = Operating profit margin × Net asset turnover; Works when the same profit and capital employed figures are used in all three ratios.
Gearing (debt ÷ equity): Gearing = Long-term debt ÷ Equity × 100%; Equity is share capital plus reserves. Debt includes long-term loans and usually preference shares. Use the definition the question gives.
Gearing (debt ÷ capital employed): Gearing = Long-term debt ÷ (Debt + Equity) × 100%; Capital employed here is debt plus equity. This gives a lower percentage than debt ÷ equity for the same company. Do not mix the two when comparing.
Interest cover: Interest cover = Profit before interest and tax ÷ Finance costs; Answer is in times. Use operating profit (profit before finance costs and tax).
Earnings per share: EPS = (Profit after tax − preference dividends) ÷ Number of ordinary shares in issue; Answer is in cents or $ per share. Simple version assumes no change in shares during the year.
Price earnings ratio: P/E = Market price per share ÷ EPS; Answer is in times (years).
Dividend cover: Dividend cover = Earnings (EPS) ÷ Ordinary dividend per share; Equivalent to profit for ordinary shareholders ÷ ordinary dividends. Answer is in times.
Dividend yield: Dividend yield = Dividend per share ÷ Market price per share × 100%; Use the ordinary dividend per share and the current share price.
Gross profit margin: Gross profit ÷ Revenue × 100; Shows profit left after cost of sales. Falls may mean lower selling prices or higher costs.
Operating profit margin: Profit from operations ÷ Revenue × 100; Shows control of overheads as well as cost of sales.
ROCE: Profit before interest and tax ÷ (Total assets − Current liabilities) × 100; Capital employed is equity plus non-current liabilities.
ROCE link: ROCE = Operating margin × Asset turnover; Asset turnover = Revenue ÷ Capital employed. Use it to explain ROCE changes.
Current ratio: Current assets ÷ Current liabilities; Short-term liquidity. Expressed as x : 1.
Quick ratio: (Current assets − Inventory) ÷ Current liabilities; Excludes inventory because it is less quickly turned into cash.
Receivables days: Trade receivables ÷ Credit revenue × 365; Average time customers take to pay.
Payables days: Trade payables ÷ Cost of sales × 365; Average time taken to pay suppliers.
Inventory days: Inventory ÷ Cost of sales × 365; Average time inventory is held.
Gearing: Debt ÷ (Debt + Equity) × 100; Higher gearing means more financial risk. Check which definition the question uses.
Interest cover: Profit before interest and tax ÷ Finance costs; Times profit covers interest.
Commentary rule: Movement + Reason + Implication; Use this in every sentence of commentary.

Quick revision

Gross profit margin = gross profit ÷ revenue × 100; operating profit margin uses profit from operations.
Return on capital employed = profit before interest and tax ÷ (total assets − current liabilities) × 100.
Current ratio = current assets ÷ current liabilities; quick ratio excludes inventory.
Inventory days = inventory ÷ cost of sales × 365; receivables days = trade receivables ÷ revenue × 365.
Payables days = trade payables ÷ cost of sales × 365 (use credit purchases only if given).
Asset turnover = revenue ÷ capital employed or net assets, as the question states.
Gearing = debt ÷ equity, or debt ÷ (debt + equity); use the version the question gives.
Interest cover = profit before interest and tax ÷ finance costs.
Earnings per share = profit attributable to ordinary shareholders ÷ weighted average ordinary shares.
Price/earnings ratio = market price per share ÷ earnings per share.
Dividend cover = profit for ordinary shareholders ÷ ordinary dividends.
Always compare with a prior year or benchmark, and give a reason, not just a direction.

Common mistakes

Saying ratios predict future performance. Fix: Remember statements are historical. Ratios may help judge the future but do not guarantee it.
Giving every user the same needs. Fix: Tie each user to a decision: lenders to repayment, investors to return, suppliers to payment.
Using revenue instead of capital employed as the base for ROCE. Fix: Remember that returns use capital as the base. ROCE divides by equity plus non-current liabilities.
Using profit after interest and tax in ROCE. Fix: ROCE rewards the return on all long-term funds, so use profit before interest and tax.
Using revenue to calculate inventory days or payables days. Fix: Inventory is held at cost, so use cost of sales. Payables relate to purchases, so use cost of sales unless purchases are given.
Leaving inventory in the quick ratio. Fix: Always write current assets − inventory as the first line of the working.
Giving asset turnover as a percentage. Fix: Asset turnover is revenue divided by assets and is stated in times. Add the word 'times' to your answer.
Using total assets instead of capital employed for net asset turnover. Fix: Use total assets less current liabilities, or equity plus non-current liabilities, unless the question says otherwise.
Using profit after interest in interest cover. Fix: Use profit before finance costs and tax. Add the interest back if you start from profit before tax.
Mixing the two gearing formulas. Fix: Use the definition in the question. If none is given, state the formula you use and apply it to every year.

Exam tips

Objective questions often name a user. Decide the user's decision first, then pick the answer.
For multiple response items, select exactly the number stated, and avoid options using absolute words like 'always' or 'guarantees'.
In limitation questions, tie the limitation to the clue given in the scenario.
Percentage change calculations use the prior year as the base. Check this before entering a number.
When asked for the purpose of ratio analysis, think 'comparison to support decisions', not just 'calculating ratios'.
Read whether the question wants profit before tax, before interest and tax, or after tax. This decides the answer in many objective questions.
In multiple response questions, calculate the ratios for both years first, then judge each statement as true or false against your figures.
When a question gives a ratio definition, use it exactly even if it differs from the one you learned.