Importance of Ratios in Company Performance and Limitations of Financial Ratios

Business Finance

Contents
INTRODUCTION...........................................................................................................................3
A) Ratios as indicators of company performance..................................................................3
B) Limitations of using financial ratios to explain key company performance.....................4
CONCLUSION................................................................................................................................5
REFERENCES................................................................................................................................6

INTRODUCTION
Business finance is defined as the system or concept which support companies to meet the
funding need of different operation which further help to increase the overall efficiency and
profitability (Burns and Dewhurst, 2016). In this report, the importance of different ratios as the
indicators of company performance and limitation of various financial ratios has been discussed.
A) Ratios as indicators of company performance.
Gross Profit Margin: In the context of Networking Solutions PLC, Gross Margin
calculates how far every dollar of revenue stays as a benefit after the expense of the produced
products is paid towards. It shows how well a respective company can repay and still
generate revenues on total sales. This Key performance indicator is a reliable indicator for a
company's overall financial viability. For e.g. Networking Solutions PLC with a margin of 5 %
for GP in a year may not have been as profitable as with 30 % for the GP margin in next year.
This states that it may produce lower wages and sluggish growth in previous year.
Net Profit Margin: The net profit margin tells how much would be left as an income
when all the relevant deduction of Networking Solutions PLC expenditures is done within a year.
Although gross profit only takes actual costs into consideration, NP margin covers all other
expenditures, including debt, taxation, depreciation etc. If a rise in net profits (i.e. the actual
number) is fantastic, the most significant metric here is to raise the net profit margin, which
ensures that manager of company are optimizing how much revenue they get with any dollar can
produce in a financial year.
ROCE: ROCE is a reasonable benchmark indicator of the success of Networking
Solutions PLC. It is one of the productivity measures used to measure the efficiency. It is
particularly helpful when contrasting different forms of company (Cairo, 2015). It is usually used
in combination with other performance metrics instead of being viewed at in isolation. It is
intended to demonstrate how profitable a firm tends to make best use of capital available by
considering the NP produced in regards to each unit of revenue the business makes.
Current Ratio: Current Ratio indicates Networking Solutions PLC capacity to pay most
of its financial liabilities within one year. It also help company to consider the liquidity
depending upon total current assets and this ratio measures the value of such assets, like account
receivables, and current liabilities, such as account payable. In particular, a ratio of 1.5 to 3 is