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Competitor A. Industry Avg
Roce (%) 35.0. 40.0
Asset turnover. 3.0
Ratio. 2.0.
Receivables 65
Collection 70
Capital gearing. 50.0
(%) 75.0Interest cover. 5.0
Ratio 2.0 timesCurrent ratio 1.5. 2 0
Sir i selected all correct answers except 2, one was my mistake because it asked if competitor a has smaller operating profit margin than the industry avg and i know to calc operating margin we would reverse the formula roce= operating margin×sales turnover and i got operating profit 17.5% while for industry avg its 13.33%
But the second question asked if it’s operating profit were 30% lower than industry avg it would make a net loss, I didn’t get it i selected true but it’s incorrect because sir interest cover is 2.0 times and we know it should be in excess of 3 to be considered better, so it’s obvious company is making loss already 30% would make a loss further, could you explain me this please
Assuming that this is a question from the BPP Revision Kit, please tell me which question.
If I am reading your table correctly, I do not understand why you are writing that it is making a loss already and also why the interest cover should be in excess of 3.
No sir this question is again from the same hubmock which i attempted yesterday, and i thought it’s making a loss because interest cover is below 3, interest cover should be in excess of 3, if its 2 or less it’s considered that the company is not making enough profits before interest and tax to pay it’s interest costs that’s why i assumed company is making a loss?
I’ll re write the question sir, because the table figures seem a bit confusing
The performance of Donner Co’s closest rival, Competitor A, together with the industry average in their sector is given below.
Competitor A
Industry Average
ROCE (%)
35.0
40.0
Asset turnover ratio based upon capital employed
2.0
3.0
Receivables collection period
70
65
Capital gearing (debt to equity) (%)
75.0
50.0
Interest cover ratio
2.0
5.0
Current ratio
1.5
2.0
Based on the figures above, are the statements about Competitor A true or false?If its operating profit were 30% lower it would make a net loss
Its liquidity position is worse than the industry average
It has a smaller operating profit margin than the industry average
Its capital gearing is riskier than the industry averageNow the first one, if it’s operating profit were 30% lower it would make a net loss, could you explain me that please, the 3rd one it’s false because it has a higher profit margin than the industry avg
I am still very confused.
Why do you say that if the interest cover is less than 2 then it cannot cover its interest costs?
That is only the case if the interest cover is less than 1.
Mybad sir, i actually meant that if interest cover is 2 times or less, it wouldn’t be considered as in acceptable limits and company might face problem paying for it’s interest comfortably, since interest size must be higher in size comparing to profits even in the definition it specifies this
“This is sometimes known as income gearing. It looks at how many times a company’s operating profits exceed its interest payable. The higher the figure, the more likely a company is to be able to meet its interest payments. Anything in excess of three is usually considered to be safe” so i thought if it’s less than 3, it would be loss for company
But i got it it would only be that case when it’s below 1, but i still didn’t understand that statement neither could i evaluate the answer, if it’s operating profit were 30% lower, it would make a net loss
Suppose the operating profit is currently 100.
Then the interest would be 50, leaving a net profit of 50.
If the operating profit was to fall by 30% it would then be 70.
The interest would still be 50, leaving a net profit of 20.So it would not make a loss.
Sir i got this, but if we would use the actual figures like operating profit is 17.5% and interest cover we know its 1.5, how are we going to solve it?
And sir if its interest cover would be less than 1, then there was no need for this calculation right? It would simply be true about company making a net loss
I don’t see your problem. Make up any figures you want to convince yourself, but the only relevant piece of information in the question for this part is the interest cover.
If the interest cover was less than 1 then yes, they would be making a loss.
I got it now sir, thankyou so much, as far as operating profit can safely pay interest without going in negative figures, company is safe
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