Edexcel A-Level Accounting: Investment ratios (YAC11) – Practice Questions

These are original questions written for Marlbridge, for revision and practice on this content. They are not reproduced past-paper questions, and they do not replicate the exam’s exact structure, question count or mark tariffs – examination boards hold copyright in their own papers. Use these alongside the official past papers from your board or school.

The questions below practise topic 2.2, Investment ratios (outcome 2.2.1 and its note), from Unit 2 of Pearson’s specification for the Edexcel International Advanced Subsidiary and Advanced Level in Accounting (XAC11/YAC11), Issue 2, September 2018. The topic is Unit 2 (A2) only: it belongs to the full International A Level, not the International AS. Companies and figures are invented; amounts are in dollars, share prices in cents. Give answers to two decimal places unless told otherwise.

Learn the method first in the study guide and the revision notes. Elsewhere: the course hub, the course checklist and free 10-minute diagnostics.

Questions

1. For dividend cover, state the formula and explain why preference dividends are deducted in it. [2]

2. Corriemuir Freight plc reported profit after tax of 1,230,000. It has 5% preference shares of 600,000 and ordinary share capital of 2,000,000 in shares of 0.25 each. Calculate the earnings per share. [3]

3. Corriemuir Freight plc’s ordinary shares trade at 198 cents.

(a) Calculate the price earnings ratio. [1] (b) Explain what this ratio tells a potential investor. [2]

4. Ottervale Paints plc has 9,000,000 ordinary shares in issue. Profit after tax was 1,422,000, preference dividends were 72,000 and ordinary dividends paid were 450,000. The share price is 160 cents. Calculate its dividend per share, dividend yield and dividend cover. [5]

5. Aldermoor Cables plc has 5,000,000 ordinary shares and pays preference dividends of 40,000 a year. Its share price is 320 cents and its price earnings ratio is 16. Calculate its profit after tax. [3]

6. Marrowfield Optics plc reported profit from operations of 1,425,000. At the year end its statement of financial position showed: ordinary shares 4,000,000; 6% preference shares 500,000; share premium 750,000; revaluation reserve 400,000; retained earnings 1,850,000; 7% debentures 2,000,000.

(a) Calculate the return on capital employed. [3] (b) Comment on the result for the debenture holders and the shareholders. [2]

7. Rambleton Bakeries plc has 16,000,000 ordinary shares. Earnings for ordinary shareholders are 2,000,000 and the share price is 150 cents.

(a) Calculate the earnings per share and the price earnings ratio. [2] (b) The company makes a 1 for 4 bonus issue. Earnings do not change. Calculate the new earnings per share. [2] (c) Explain why the fall in earnings per share does not mean performance has worsened. [2]

8. Sorrelbank Energy plc, year ended 30 September 2025.

Statement of profit or loss (extract)	$
Revenue	7,500,000
Cost of sales	(4,800,000)
Distribution costs and administrative expenses	(1,650,000)
Finance costs (6% debentures)	(75,000)
Tax	(195,000)

Statement of financial position at 30 September 2025	$
Non-current assets	6,455,000
Inventory	980,000
Trade receivables	870,000
Cash and cash equivalents	150,000
Trade payables	(760,000)
Tax payable	(195,000)
6% debentures	(1,250,000)
Ordinary shares of 0.50 each	2,400,000
8% preference shares of 1 each	600,000
Share premium	900,000
Retained earnings	2,350,000

The full preference dividend and ordinary dividends of 336,000 were paid during the year.

(a) Calculate gross profit as a percentage of revenue, profit for the year as a percentage of revenue, the return on capital employed, the current ratio and the liquid (acid test) ratio. [6] (b) Calculate the earnings per share, the dividend per share and the dividend cover. [4] (c) Comment on whether Sorrelbank can afford its ordinary dividend. [2]

9. An investor wants a reliable income for the next ten years and is choosing between two companies.

	Thistlewick Pharma plc	Pennick Logistics plc
Profit after tax	3,500,000	4,050,000
Preference dividends	140,000	none
Ordinary shares in issue	28,000,000	15,000,000
Ordinary dividends paid	2,520,000	1,080,000
Share price	150 cents	459 cents

Thistlewick’s profit after tax has fallen for two years; Pennick’s has risen.

(a) Calculate the price earnings ratio, dividend yield and dividend cover for each company. [7] (b) Evaluate which company better meets the investor’s aim. [5]

10. Merrivale Homes plc forecasts profit after tax of 2,035,000 for next year. Preference dividends are 160,000 and there are 10,000,000 ordinary shares. The directors want dividend cover of 2.5 times. The share price is expected to be 150 cents.

(a) Calculate the maximum ordinary dividend. [2] (b) Calculate the dividend per share. [1] (c) Calculate the expected dividend yield. [1] (d) Explain why the directors might pay less than this maximum. [2]

Answers

1. Dividend cover = (profit after tax − preference dividends) / total ordinary dividend paid [1]. Preference shareholders are paid before ordinary shareholders, so only the profit left after their dividend is available to pay the ordinary dividend [1]. [2] Examiner insight: “Profit / dividends” is too vague; name which profit and which dividend.

2. Preference dividend = 600,000 × 5% = 30,000 [1]. Ordinary shares = 2,000,000 / 0.25 = 8,000,000 [1]. EPS = (1,230,000 − 30,000) / 8,000,000 = 15.00 cents [1]. [3] Examiner insight: Dividing by 2,000,000 treats dollars as shares; show the share count on its own line.

3. (a) P/E = 198 / 15.00 = 13.20 times [1]. (b) The price is 13.2 times the earnings of one share, so an investor pays 13.20 for each 1 of current annual earnings [1]. Compared with similar companies, a higher P/E shows more market confidence in future growth [1]. [3] Examiner insight: A P/E means little alone; say what it should be compared with.

4. DPS = 450,000 / 9,000,000 = 5.00 cents [1]. Dividend yield = 5.00 / 160 × 100 [1] = 3.13% [1]. Earnings = 1,422,000 − 72,000 = 1,350,000 [1]. Dividend cover = 1,350,000 / 450,000 = 3.00 times [1]. [5] Examiner insight: Keep the yield in cents over cents; 5.00 / 1.60 gives a meaningless 312.5%.

5. EPS = 320 / 16 = 20.00 cents [1]. Earnings = 0.20 × 5,000,000 = 1,000,000 [1]. Profit after tax = 1,000,000 + 40,000 = 1,040,000 [1]. [3] Examiner insight: Working backwards, add the preference dividend back; check by recalculating EPS.

6. (a) Capital employed = 4,000,000 + 500,000 + 750,000 + 400,000 + 1,850,000 + 2,000,000 = 9,500,000 [1]. ROCE = 1,425,000 / 9,500,000 × 100 [1] = 15.00% [1]. (b) The business earns 15% on its long-term funds, more than double the 7% it pays debenture holders, so interest is comfortably covered by returns [1]. The surplus over 7% on the borrowed funds adds to the return available to shareholders [1]. [5] Examiner insight: The revaluation reserve and share premium are reserves and belong in capital employed; leaving them out overstates ROCE.

7. (a) EPS = 2,000,000 / 16,000,000 = 12.50 cents [1]. P/E = 150 / 12.50 = 12.00 times [1]. (b) New shares = 16,000,000 × 5/4 = 20,000,000 [1]. EPS = 2,000,000 / 20,000,000 = 10.00 cents [1]. (c) A bonus issue is made from reserves and brings in no cash, so earnings are unchanged [1]. The same earnings are spread over more shares and each shareholder owns the same proportion of the company, so trading performance has not changed [1]. [6] Examiner insight: A 1 for 4 issue adds one share for every four held: shares rise by a quarter.

8. (a) Gross profit = 2,700,000; 2,700,000 / 7,500,000 × 100 = 36.00% [1]. Profit for the year = 2,700,000 − 1,650,000 − 75,000 − 195,000 = 780,000; 780,000 / 7,500,000 × 100 = 10.40% [1]. Capital employed = 2,400,000 + 600,000 + 900,000 + 2,350,000 + 1,250,000 = 7,500,000 [1]. ROCE = 1,050,000 / 7,500,000 × 100 = 14.00% [1]. Current ratio = 2,000,000 / 955,000 = 2.09 : 1 [1]. Liquid ratio = 1,020,000 / 955,000 = 1.07 : 1 [1]. (b) Preference dividend = 48,000 and ordinary shares = 4,800,000 [1]. EPS = (780,000 − 48,000) / 4,800,000 = 15.25 cents [1]. DPS = 336,000 / 4,800,000 = 7.00 cents [1]. Dividend cover = 732,000 / 336,000 = 2.18 times [1]. (c) Earnings cover the dividend 2.18 times, so less than half of earnings is paid out and the rest is retained [1]. The liquid ratio above 1 : 1 suggests it can pay in cash, but with only 150,000 of cash it could not easily pay more [1]. [12] Examiner insight: For ROCE use profit from operations (1,050,000); profit for the year is after interest, yet capital employed includes the debentures.

9. (a) Thistlewick earnings = 3,500,000 − 140,000 = 3,360,000 [1]; EPS = 12.00 cents, P/E = 150 / 12.00 = 12.50 times [1]; DPS = 9.00 cents, yield = 6.00% [1]; cover = 3,360,000 / 2,520,000 = 1.33 times [1]. Pennick EPS = 27.00 cents, P/E = 459 / 27.00 = 17.00 times [1]; DPS = 7.20 cents, yield = 1.57% [1]; cover = 4,050,000 / 1,080,000 = 3.75 times [1]. (b) Thistlewick gives almost four times the yield, which suits an income aim today [1]. But it pays out three-quarters of its earnings, and with cover of only 1.33 a further fall in profit would leave earnings unable to support the dividend [1]. Its low P/E suggests the market expects that decline to continue [1]. Pennick’s yield is low, but cover of 3.75 and rising profits give scope for dividends to grow over ten years [1]. Judgement: for a reliable ten-year income Pennick is safer, although the investor gives up income early on; the ratios use past results and one day’s prices, so review the choice each year [1]. [12] Examiner insight: “Evaluate” needs a decision tied to the stated aim (reliability over ten years); picking the higher yield without weighing cover and the profit trend misses it.

10. (a) Earnings = 2,035,000 − 160,000 = 1,875,000 [1]. Maximum ordinary dividend = 1,875,000 / 2.5 = 750,000 [1]. (b) DPS = 750,000 / 10,000,000 = 7.50 cents [1]. (c) Dividend yield = 7.50 / 150 × 100 = 5.00% [1]. (d) The profit is only a forecast [1]; a dividend also needs cash, and retained profit could fund growth without borrowing [1]. [6] Examiner insight: Dividend cover rearranges to dividend = earnings / cover; multiplying instead gives a dividend larger than the profit.

Where marks are usually lost

• Leaving preference dividends in the earnings figure for EPS or dividend cover.
• Using share capital in dollars as the number of shares.
• Mixing dollars and cents between EPS, DPS and the share price.
• Including preference dividends in dividend per share.
• Omitting share premium, revaluation reserve, preference shares or debentures from company capital employed.
• Using profit for the year instead of profit before finance costs for ROCE.
• Answering “Evaluate” with a list of ratios and no judgement tied to the investor’s aim.

Next steps

• Investment ratios revision notes
• Investment ratios study guide
• Drill the Unit 1 ratios: topic 1.5 practice
• Find your gaps: all free 10-minute diagnostics
• Exam preparation guide
• Course overview: course hub and course checklist
• Work with a teacher: book a free trial class

Official syllabus

Pearson Edexcel International Advanced Subsidiary/Advanced Level in Accounting (XAC11/YAC11) specification, Issue 2, September 2018, first teaching September 2015, published by Pearson Education Limited. Unit 2, topic 2.2 Investment ratios, and Appendix 7: Formulae.