Secondary 4 Principles of Accounts Ratios Analysis Quiz

Secondary 4 Principles of Accounts Quiz - Ratios Analysis

Answer Key

Section A: Short Answer Questions

1.
Current Ratio = Current Assets ÷ Current liabilities
[1 mark]
Common mistake: Reversing the formula (dividing liabilities by assets).

2.

• This ratio measures how efficiently a business collects its credit sales from trade receivables.
• A higher value indicates that the business is collecting its receivables more quickly, which improves cash flow.
  [2 marks – 1 mark for what it measures, 1 mark for interpretation]

3.
Return on equity (ROE) measures the profit generated from the owner's investment in the business. It shows how effectively the business uses the owner's capital to earn profit.
[1 mark]
Accept any equivalent definition.

4.
Any two of the following:

• Ratios are based on historical data and may not reflect future performance.
• Different businesses may use different accounting policies, making comparisons unreliable.
• Ratios do not consider non-financial factors (e.g., quality of management, market conditions).
• Inflation can distort ratio comparisons over time.
• A single ratio does not provide a complete picture; multiple ratios should be analysed together.
  [2 marks – 1 mark per valid limitation, max 2]

5.
Any one of the following:

• Cost of sales increased (e.g., higher purchase prices, increased freight costs).
• Selling prices were reduced to remain competitive.
• More sales were made at discounted prices.
• A change in sales mix toward lower-margin products.
  [2 marks – 1 mark for valid reason, 1 mark for clear explanation]

Section B: Calculation Questions

6.
Inventory Turnover Rate

• Average inventory = ($28,000 +$32,000) ÷ 2 = $30,000
• Inventory turnover = Cost of sales ÷ Average inventory
• Inventory turnover = $150,000 ÷$30,000 = 5.0 times
  [2 marks – 1 mark for average inventory, 1 mark for final answer]
  Common mistake: Using opening inventory only ($28,000) instead of average inventory.

7.
Average Inventory Holding Period

• Inventory holding period = 365 days ÷ Inventory turnover
• Inventory holding period = 365 ÷ 5.0 = 73 days
  [2 marks – 1 mark for formula/method, 1 mark for final answer]
  Alternative method: ($30,000 ÷$150,000) × 365 = 73 days. Award full marks for either method.

8.
Net Profit Margin

• Net profit margin = (Net profit ÷ Sales) × 100%
• Net profit margin = ($45,000 ÷$300,000) × 100% = 15%
  [2 marks – 1 mark for formula, 1 mark for final answer]

9.
Quick Ratio (Acid-Test Ratio)

• Quick assets = Current assets − Inventory = $85,000 −$20,000 = $65,000
• Quick ratio = Quick assets ÷ Current liabilities
• Quick ratio = $65,000 ÷$50,000 = 1.3 : 1
  [2 marks – 1 mark for quick assets, 1 mark for final answer]
  Common mistake: Using current assets instead of quick assets (would give 1.7 : 1).

10.
Trade Receivables Turnover

• Average trade receivables = ($22,000 +$26,000) ÷ 2 = $24,000
• Trade receivables turnover = Credit sales ÷ Average trade receivables
• Trade receivables turnover = $180,000 ÷$24,000 = 7.5 times
  [2 marks – 1 mark for average receivables, 1 mark for final answer]

11.
Average Collection Period

• Average collection period = 365 days ÷ Trade receivables turnover
• Average collection period = 365 ÷ 7.5 = 48.67 days (or 49 days rounded)
  [2 marks – 1 mark for formula/method, 1 mark for final answer]
  Alternative method: ($24,000 ÷$180,000) × 365 = 48.67 days.

12.
Return on Equity (ROE)

• Average capital = ($200,000 +$240,000) ÷ 2 = $220,000
• ROE = (Net profit ÷ Average capital) × 100%
• ROE = ($60,000 ÷$220,000) × 100% = 27.27%
  [2 marks – 1 mark for average capital, 1 mark for final answer]

13.
Gross Profit Margin

• Gross profit = Sales − Cost of sales = $500,000 −$350,000 = $150,000
• Gross profit margin = (Gross profit ÷ Sales) × 100%
• Gross profit margin = ($150,000 ÷$500,000) × 100% = 30%
  [2 marks – 1 mark for gross profit, 1 mark for final answer]

14.
Trade Payables Turnover

• Average trade payables = ($30,000 +$40,000) ÷ 2 = $35,000
• Trade payables turnover = Credit purchases ÷ Average trade payables
• Trade payables turnover = $210,000 ÷$35,000 = 6.0 times
  [2 marks – 1 mark for average payables, 1 mark for final answer]

15.
Average Payment Period

• Average payment period = 365 days ÷ Trade payables turnover
• Average payment period = 365 ÷ 6.0 = 60.83 days (or 61 days rounded)
  [2 marks – 1 mark for formula/method, 1 mark for final answer]
  Alternative method: ($35,000 ÷$210,000) × 365 = 60.83 days.

Section C: Interpretation and Analysis

16.
(a)

• The current ratio decreased from 2.5 : 1 to 1.8 : 1, and the quick ratio decreased from 1.6 : 1 to 1.2 : 1.
• This indicates that the liquidity position of Raj Trading has worsened from 2024 to 2025.
• The business has less ability to meet its short-term obligations from 2024 to 2025.
  [2 marks – 1 mark for identifying the trend, 1 mark for explaining the implication]

(b)
Any one of the following:

• Reduce inventory levels to free up cash.
• Collect trade receivables more quickly.
• Negotiate longer credit terms with trade payables.
• Obtain a short-term loan to increase current assets.
• Sell non-current assets for cash.
  [1 mark – for any valid suggestion]

17.
(a)

• The gross profit margin may have decreased because cost of sales increased at a faster rate than sales.
• This could be due to higher purchase prices, increased freight costs, or selling products at lower markups.
• Alternatively, the business may have shifted to selling more low-margin products.
  [2 marks – 1 mark for identifying the cause, 1 mark for explanation]

(b)

• The business is worse off in 2025 because the gross profit margin has decreased, meaning the business earns less profit per dollar of sales.
• Even though sales increased, the lower margin suggests reduced profitability efficiency.
  [1 mark – for correct conclusion with valid justification]

18.
(a)

• Kumar Trading's inventory turnover of 4.2 times is lower than the industry average of 6.0 times.
• This suggests that Kumar Trading is less efficient in managing its inventory — it takes longer to sell its inventory compared to the industry.
  [1 mark – for correct interpretation]

(b)
Any one of the following:

• The business may be holding excessive or slow-moving inventory.
• The business may have over-purchased inventory.
• The business may be selling products that are less in demand.
• Poor inventory management or forecasting.
  [1 mark – for any valid reason]

19.
(a)

• The collection of receivables has improved because the trade receivables turnover increased from 5.0 times to 7.5 times, meaning the business is collecting receivables more quickly.
  [1 mark – for correct conclusion]

(b)
Any one of the following:

• Improved cash flow, as cash is received more quickly.
• Reduced risk of bad debts.
• Less need for external financing.
• More cash available for reinvestment or paying obligations.
  [1 mark – for any valid benefit]

20.
(a)

• ROCE = (Net profit ÷ Capital employed) × 100%
• ROCE = ($80,000 ÷$320,000) × 100% = 25%
  [1 mark – for correct calculation]

(b)

• Ahmad Trading's ROCE of 25% is higher than the industry average of 18%.
• This indicates that Ahmad Trading is more profitable relative to its capital employed compared to the industry average.
• The business is using its capital more efficiently to generate profit.
  [1 mark – for correct comparison and comment]

End of Answer Key