These further examples continue the topic from page 322 (Evaluating financial statements: ratio analysis) of Chapter 8 and will remind you how ratios can be used to simplify the relationship between two figures to enable comparisons to be made.

Example 1

You run a hotel. In the year ended 30 November 2021, your hotel had 25 rooms available for overnight stays throughout the financial year. The total income generated from the hotel was £500,000. In the year to 30 November 2022, following a period of refurbishment, your hotel had 30 rooms available for overnight stays throughout the financial year and generated total income of £630,000. Is your hotel doing better or worse in 2022 than in 2021 from a financial point of view?

Looking at the numerical information given, it is impossible to say whether your hotel is doing better or worse financially in 2022 compared to 2021. Total income is up, but there are more rooms available in 2022 than 2021, so you would expect total income to rise. How will you decide whether the hotel is generating more income given the differences in the number of rooms available and the total income generated in each year?

By reducing the data to simple ratios you can determine that in 2021 each room generated revenue of £500,000 ÷ 25 rooms = £20,000 per room. In 2022, the revenue generated by each room was £630,000 ÷ 30 rooms = £21,000 per room, so 2022 has been a more successful year in terms of revenue generation from each room.

In this case, the use of ratios has simplified the relationship between two sets of figures for different financial years to enable meaningful comparisons to be made.

Page reference: 322

Heading reference: Evaluating financial statements: ratio analysis

Example 2

You run a local Sunday League football team. In the 2019/2020 season, your football team played 25 matches, scoring 68 goals and conceding 35. The team won 12 matches, drew 8 and lost 5 and amassed a points total of 44. In the 2020/2021 season your team played 34 matches, scoring 82 goals and conceding 42. The team won 18 matches, drew 7 and lost 9 and amassed a points total of 61.Have results in the 2020/2021 season been better or worse than those in 2019/2020?

Again, given the difference in the number of matches played in the two seasons, the differing number of goals for and against, the differences in games won, drawn and lost and the different points totals from varying numbers of matches, it is impossible to tell whether your team’s results are better or worse without calculating various ratios. Using the information provided, the following ratios, among others, can be calculated.

How much better or worse are your team’s results in the 2020/2021 season compared to the 2019/2020 season? You can now draw the following conclusions after calculating the ratios above:

• Fewer goals were scored per game, so the attack seems to have been less effective than in the 2019/2020 season.
• However, fewer goals were conceded per game so the defence seems to have been more effective at stopping the opposition from scoring than in the 2019/2020 season.
• Points per match are just slightly higher compared to the previous season, but this is a better return per match than in 2019/2020.
• The win % is higher at 53% than the win % of 48% achieved in 2019/2020.
• Despite the reduction in the average goals scored per match, the team’s results have improved in all the other areas covered by the above statistics, so it is reasonable to say that 2020/2021 results have been an improvement on those achieved in the 2019/2020 season.

Again, the use of ratios has simplified the relationship between two sets of figures to enable meaningful comparisons to be made.

Notes on calculations:

• Goals scored per match: number of goals scored ÷ number of matches played (82 ÷ 34/68 ÷ 25)
• Goals conceded per match: number of goals conceded ÷ number of matches played (42 ÷ 34/35 ÷ 25)
• Points per match: total points achieved ÷ number of matches played (61 ÷ 34/44 ÷ 25)
• Win %: number of wins ÷ number of matches played x 100% (18 ÷ 34 x 100%/12 ÷ 25 x 100%)

Page reference: 322

Heading reference: Evaluating financial statements: ratio analysis