Evaluate the adequacy of accounting ratios as a means of monitoring business health in a selected organisation, using examples.
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D2: Evaluate the adequacy of accounting ratios as a means of monitoring business health in a selected organisation, using examples. The importance of ratios in any business is vital because it gives the business a better understanding of the financial data. By using ratios we can compare data from the current year with the previous years, from this the business will identify if they are making more profit or a loss of if they just broke even. There are four types of ratios that a business has to calculate: * Investment ratio * Financial ratio * Profitability ratio * Utilisation ratio Investment ratio: This ratio is usually used when investors want to invest in an organisation. The ratio calculation that they find normally consists of the performances of the businesses and if investing is a good idea or not in that business. Then the shareholders fund the company, and it is likely that they will get more investors and grow bigger if the business is in profit.
They would think of recruiting staff when they know that their sales are high and the time to do the job isn't enough. They run their business by according to situations if front of them and do not use ratios. Depending on how the assets are used profits can be affected, for example; if machinery equipments are only used for a few hours a day then it is not that much of a use to the business, then the outcome leads to less sales revenue and less profit for the business which could make the business into debt or make them in loss. Financial Ratio: This is also the working capital management ratio. This ratio evaluates the sufficiency of the working capital in the business and the useful use. There are funds that have working capital and fixed asset in the business. What the business has which is assessable to sell or that can be changed to money is a current asset, for example; debtor's cash or stock.
Ratio's can only be judged by comparing the ratios to the previous year for example; for the first year of the business they won't be able to carry out any ratio calculations because that is the first year of their business and there wasn't a previous one. The prediction of the upcoming year may be wrong because due to factors that will put the business off, even if they do get a pervious account data. In order to have a good final answer which may be hard to decide you cannot just do one ratio you will have to do at least a few of them. Why you compare them over a period of time? It is likely that the price level can be different from what was seen before when time goes by, this may affect the validity of the ratio. The ratio analysis may not clearly point out the trend in solvency and the profitability of the business. So therefore it is important that the financial statement needs to be used to the correct price level. ?? ?? ?? ?? Abdul Rana
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