Financial Management · Financial objectives and relationship with corporate strategy

Financial Ratios for Measuring Corporate Performance in ACCA FM

Updated 11 October 2026 · Fact-checked

Financial ratios turn accounts into numbers you can compare with a company's financial objectives. Calculate ROCE, profit margins, EPS, dividend cover, gearing and interest cover. Compare them with targets, prior years or peers. Then say whether each objective is met and explain why, using the drivers behind the change.

Understand Financial Ratios for Measuring Corporate Performance

A company sets financial objectives such as a target return, steady earnings growth, a sensible level of debt and a reliable dividend. Ratios tell you whether it is hitting them. A ratio alone means little. It matters only when compared with a target, last year or a similar company.

Think of ratios in four groups. Profitability: ROCE and margins show how well the business turns capital and sales into profit. Shareholder return: EPS, EPS growth, dividend per share and dividend cover show what ordinary shareholders receive. Financial risk: gearing and interest cover show how heavily the company relies on debt and how safely it can pay interest. Efficiency: asset turnover shows how hard the capital is working.

ROCE links to margin and turnover. ROCE = operating margin × asset turnover. If ROCE falls, one of these two fell. This is the best way to explain a change, and examiners reward it.

EPS can rise or fall for reasons other than real performance. A share issue spreads profit over more shares. Debt raises EPS if the return on borrowed money exceeds the interest cost, but it also raises risk. So always look at EPS beside gearing and interest cover.

In FM, the point is not calculation alone. Marks go to comment: is the objective achieved, what caused the result, and what could the company do about it?

Key rules to remember

ROCE: ROCE = PBIT ÷ capital employed × 100%; Capital employed = total assets − current liabilities = equity + non-current liabilities. PBIT is profit before interest and tax. State your definition if the question does not give one.
Operating profit margin: Operating margin = PBIT ÷ revenue × 100%; Gross margin uses gross profit ÷ revenue in the same way.
Asset turnover: Asset turnover = revenue ÷ capital employed; Answer in times. Use the same capital employed as in ROCE.
ROCE breakdown: ROCE = operating margin × asset turnover; Use it to explain why ROCE moved.
Earnings per share: EPS = (profit after tax − preference dividends) ÷ weighted average number of ordinary shares; Earnings must be attributable to ordinary shareholders. EPS growth = (this year's EPS ÷ last year's EPS) − 1.
Dividend cover: Dividend cover = earnings attributable to ordinary shareholders ÷ ordinary dividends = EPS ÷ DPS; Answer in times. A higher figure means more profit is kept in the business.
Gearing: Gearing = debt ÷ equity, or debt ÷ (debt + equity); Both definitions are used. Choose one, state it and use it for every year. Follow any definition given in the question.
Interest cover: Interest cover = PBIT ÷ finance costs; Answer in times. A low figure means profit gives little protection against interest costs.

How to solve Financial Ratios for Measuring Corporate Performance questions

Use this method for any question that asks you to assess performance against financial objectives.

1Read the objectives or targets first, such as a target ROCE, EPS growth or maximum gearing. Underline them.
2Choose the ratios that match each objective. Do not calculate everything if the question asks about specific objectives.
3State each formula and definition briefly, especially capital employed and gearing.
4Calculate each ratio for every year or company given. Keep the same basis throughout.
5Compare each result with its target, the prior year or the peer. Say clearly whether the objective is achieved.
6Explain the cause. For ROCE, split into margin and asset turnover. For EPS, check share issues, interest and preference dividends.
7Link the ratios together, for example a higher EPS bought with higher gearing and lower interest cover.
8Finish with a short conclusion and, if asked, a recommendation.

Quickest way: Target, ratio, verdict, reason

When to use it: Use in Section C when time is short, or in Section B when one objective is tested through a short scenario.

Write each target in a list down the page.
Next to each, calculate the one matching ratio for each year.
Add a tick or cross for whether the target is met.
Add one sentence of reason per ratio, using margin or turnover for ROCE and share count or debt for EPS and gearing.
For objective test questions, check the definition of capital employed or gearing in the question before calculating. Wrong definition means a wrong option.

Common mistakes in Financial Ratios for Measuring Corporate Performance

Using profit after interest or after tax in ROCE.
Students take the last profit figure in the question.
Fix: ROCE uses PBIT, because capital employed includes debt and debt providers are paid from this profit.
Forgetting to deduct preference dividends in EPS.
Students use profit after tax directly.
Fix: Deduct preference dividends first. Then divide by the weighted average number of ordinary shares.
Mixing gearing definitions between years or companies.
Debt ÷ equity and debt ÷ (debt + equity) give different answers and both appear in textbooks.
Fix: State the definition once and use it every time. Follow the question if it gives one.
Writing only numbers with no comment.
Calculation feels safer than discussion.
Fix: For each ratio write: result, compared with what, objective met or not, and why.
Judging dividend growth by total dividends only.
New shares make total dividends rise while the dividend per share falls.
Fix: Compare dividend per share and EPS, not totals, when the share count has changed.
Saying higher gearing is always bad or always good.
Students remember a rule of thumb.
Fix: Say debt can raise EPS if the return exceeds the interest cost, but it raises financial risk, shown by lower interest cover.

Worked examples

Example 1

A company has these figures. Year 1: revenue $100m, PBIT $15m, equity $60m, long-term debt $40m, interest $3.2m. Year 2: revenue $120m, PBIT $16.8m, equity $64m, long-term debt $56m, interest $4.48m. Capital employed is equity plus long-term debt. Gearing is debt ÷ equity. Targets: ROCE at least 15%, gearing no more than 70%, interest cover at least 4 times. Assess whether the targets are met.

Show the solution

Capital employed: Year 1 = 60 + 40 = $100m. Year 2 = 64 + 56 = $120m.
ROCE: Year 1 = 15 ÷ 100 = 15%. Year 2 = 16.8 ÷ 120 = 14%.
Operating margin: Year 1 = 15 ÷ 100 = 15%. Year 2 = 16.8 ÷ 120 = 14%.
Asset turnover: Year 1 = 100 ÷ 100 = 1.0 times. Year 2 = 120 ÷ 120 = 1.0 times.
Gearing (debt ÷ equity): Year 1 = 40 ÷ 60 = 66.7%. Year 2 = 56 ÷ 64 = 87.5%.
Interest cover: Year 1 = 15 ÷ 3.2 = 4.69 times. Year 2 = 16.8 ÷ 4.48 = 3.75 times.
Compare with targets: Year 1 meets all three. Year 2 fails all three.
Reason: asset turnover is unchanged, so the ROCE fall comes wholly from the lower operating margin. Revenue grew 20%, but PBIT grew only 12%, so costs rose faster than sales. Capital employed rose by $20m, funded by $16m of new debt (from $40m to $56m) and $4m of extra equity (from $60m to $64m). Debt provided most of the extra capital, which raised gearing and interest cost.

Answer: Year 1 meets all targets (ROCE 15%, gearing 66.7%, interest cover 4.69). In Year 2 none is met: ROCE 14%, gearing 87.5% and interest cover 3.75 times. The fall in ROCE is caused by a lower margin, not by asset turnover, and growth was financed mainly by debt ($16m of the $20m increase), increasing financial risk.

Example 2

A company has preference dividends of $0.5m each year. Year 1: profit after tax $9.0m, 20m ordinary shares, ordinary dividends $5.1m. Year 2: profit after tax $9.9m, weighted average 22m ordinary shares (after a share issue), ordinary dividends $5.5m. The company targets EPS growth of at least 5% a year. Calculate EPS, EPS growth, dividend per share and dividend cover, and comment.

Show the solution

Earnings for ordinary shareholders: Year 1 = 9.0 − 0.5 = $8.5m. Year 2 = 9.9 − 0.5 = $9.4m.
EPS: Year 1 = 8.5 ÷ 20 = 42.5 cents. Year 2 = 9.4 ÷ 22 = 42.7 cents.
EPS growth = 42.73 ÷ 42.5 − 1 = about 0.5%.
Dividend per share: Year 1 = 5.1 ÷ 20 = 25.5 cents. Year 2 = 5.5 ÷ 22 = 25.0 cents.
Dividend cover: Year 1 = 8.5 ÷ 5.1 = 1.67 times. Year 2 = 9.4 ÷ 5.5 = 1.71 times.
Comment: earnings rose by about 10.6% (9.4 ÷ 8.5), but the larger share count cut the benefit to each share.

Answer: EPS rose from 42.5c to 42.7c, growth of about 0.5%, well below the 5% target. Dividend per share fell from 25.5c to 25.0c although total dividends rose. Dividend cover improved slightly from 1.67 to 1.71 times. Total earnings grew, but dilution from the share issue meant shareholders gained little per share.

Exam tips

In Section C, a ratio table followed by short, reasoned comments scores better than long essays with few numbers.
Always state your definition of capital employed and gearing in one line. Markers give credit for a clear, consistent basis.
In objective test cases, read the definition given in the scenario before calculating. Marks are all or nothing, so a wrong basis gives zero.
Use ROCE = margin × asset turnover to explain any movement. It shows depth with very little writing.
Mention limits briefly: ratios use historical accounting figures, differing accounting policies affect comparison, and a single year may mislead.

Practice questions from Financial objectives and relationship with corporate strategy

Financial Ratios for Measuring Corporate Performance in other exams

The same ground in other exams, if you are preparing for more than one or want another angle on it.

Financial Ratios for Measuring Corporate Performance: frequently asked questions

How do I calculate ROCE in ACCA FM?

Divide PBIT by capital employed and multiply by 100. Capital employed is total assets less current liabilities, which equals equity plus non-current liabilities. State this definition in your answer.

What is the difference between EPS growth and dividend cover?

EPS growth shows how fast earnings per ordinary share are rising year on year. Dividend cover shows how many times earnings could pay the ordinary dividend. A company can have strong EPS growth and low cover if it pays out most of its profit.

Which gearing ratio should I use in the exam?

Use the definition given in the question. If none is given, choose debt ÷ equity or debt ÷ (debt + equity), state it and use it consistently for all years. The conclusion about whether gearing rose or fell is the same either way.

How do I analyse financial performance in an FM Section C question?

Match ratios to the stated objectives, calculate them for each year, compare with targets, and explain the cause of each change. Then link ratios together, such as higher EPS against higher gearing. Finish with a clear conclusion.