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Business Ratio Analysis Essay

Ratios allow the thorough investigation of the business, in this case Philips. By comparing years from 1998 to 2002 it enables more informed judgements to be made and also allows key figures such as profit and turnover to be put into context. Ratio analysis can assist in making a decision about whether Philips have the financial backup to support the console and achieve success. Liquidity Ratios These are ratios that help to measure the ability of Philips to settle debts in the short term. It will help to give an indication about how well Philips will be able to cope with sudden changes in demand for example obtaining more stock.

And also helps to show how well they will be able to borrow and pay loans in order to support the console through promotion and marketing. The current ratio shows that Philips posses i?? 2 of current assets for each i?? 1 of current liabilities. In this circumstance Philips will be able meet its current liabilities without needing to sell fixed assets or raise long-term finance. A typical figure is around 1. 6:1 and therefore it can be said that Philips have a relatively good current ratio.

However in spite of this,

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the normal figure varies according to the type of business, an electrical firm like Philips may have a different ratio to a retailer. As Philips is a large manufacturing company they are quite liquid and will be able to borrow loans and aid the console. Philips ratio has decreased from 2001 by 0. 48 to 2002, this could have been due to Philips struggling in the market or paying off loans. This comparison shows that the ratio from 2001 to 2002 has decreased dramatically, however 1. 75 is still acceptable and should be sufficient to support the console when paying liabilities.

In the long term Philips should be cautious as their current ratio has decreased significantly. If it continues to decrease over the next few years there could be a problem as having a low current ratio would indicate an illiquid firm and therefore Philips may struggle to borrow and pay loans. Acid Test Ratio This ratio measures the short term liquidity of a business. This provides a more accurate indicator of liquidity than the current ratio as stock can take time to sell. This ratio will be very useful in determining Philips ability to pay its bill over a period of 2-3 months without requiring the sale of stock.

Conventionally a normal acid figure is around 1:1 giving a balance of liquid assets and current liabilities; however some businesses run at around 0. 7 which is thought to be satisfactory. The acid ratio shows that Philips have high liquidity levels particularly in 2001 and slowly decreasing to 1. 3 in 2002. It indicates that Philips have enough liquid to pay off short term loans however it would not be appropriate for them to operate over long periods as holding assets in the form of cash is not profitable and does not represent an effective use of resources.

Philips could aim to improve their acid ratio by selling fixed or agreeing long-term borrowing. Philips will be able to borrow money from banks as they are very liquid however they should be very cautious in the near future especially if they are launching the console, high liquidity will just lead to financial problems. Gearing Ratio The gearing ratio focuses on long-term financial stability of an organisation. It measures long-term loans as a proportion of a firm’s capital employed. It will help to show how reliant Philips are upon borrowed cash. In turn, that indicates how vulnerable they might be to financial setbacks.

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