Ratios: practice questions

How to approach these questions

Ratio questions look hard because there are many formulas. They reward students who read the requirement word by word. First identify exactly which ratio is asked for.

"Gross margin" needs gross profit ÷ revenue, whereas "mark-up" needs gross profit ÷ cost of sales. Underline the ratio name.

Then underline whether the answer is wanted as a percentage, a number of times or a number of days. A wrong unit loses the final mark even when the arithmetic is perfect.

Work in a fixed order. Write the formula, substitute the figures with their labels, calculate, then state the answer with its unit. This habit earns method marks.

Suppose current assets are RM40,000 and current liabilities are RM16,000. Write "Current ratio = current assets ÷ current liabilities = 40,000 ÷ 16,000 = 2.5 : 1". If you fumble the division, the examiner can still see the correct method and give part marks.

A lone "2.5" with no working is fragile. If it is wrong you get nothing.

The biggest trap is using the wrong figures. Revenue means sales after returns, not everything credited. Cost of sales is opening inventory plus purchases minus closing inventory, not just purchases.

For profitability ratios, use gross profit or profit for the year as specified. For return on capital employed, capital employed is normally owner's capital plus long-term liabilities, not current liabilities.

Read whether the question wants trade receivables only or all current assets, because the acid-test ratio leaves out inventory. Circle each figure you need before you start, to avoid dividing by the wrong denominator.

Many questions ask you to compare two years or two businesses. That is where the interpretation marks are. Do not just say "the ratio went up".

Say what the change means for the business and, where you can, why it happened. If the receivables collection period rose from 30 days to 45 days, customers are taking longer to pay. That weakens cash flow and may point to weak credit control or generous new credit terms.

Use this structure: state the direction of change, say whether it is better or worse, then give one plausible cause and one effect. That gives the marker three things to reward.

For collection and payment periods, watch the multiplier. Trade receivables days = receivables ÷ credit sales × 365. If the question gives only total sales, state that you assume all sales are on credit.

Inventory turnover is cost of sales ÷ average inventory in times, or average inventory ÷ cost of sales × 365 in days. Re-read which one is wanted.

Give percentages to one or two decimal places and days to the nearest whole day unless told otherwise. Never round midway.

Sense-check each answer. A healthy trader's current ratio is usually between about one and three. A gross margin cannot exceed 100%.

A collection period of 500 days signals an arithmetic slip. Liquidity ratios end in ":1", profitability ratios in "%", and efficiency periods in "days" or "times". Keep your workings tidy so the examiner can follow your intent if you run short of time.

If your ratios are right but your comments lose marks, one of our teachers can practise interpretation with you on questions like these. Book a trial class