IGCSE Accounting: Analysis and Interpretation — Revision Notes

Syllabus edition note. This resource follows the Cambridge IGCSE Accounting 0452 syllabus for exams in 2027, 2028 and 2029 (version 1), first examined in the March 2027 series in India and the June 2027 series elsewhere. If you sit 0452 in November 2026, you sit the 2026 syllabus (version 2), which differs: Paper 1 has 35 multiple-choice marks in 1 hour 15 minutes, not 40 marks in 1 hour 30 minutes; Topic 7 is “Accounting principles and policies”, without 7.2 Ethical considerations or 7.3 Technology and sustainability; 4.4 is “Irrecoverable debts and provision for doubtful debts”; income statements are named instead of statements of profit or loss; three-column running balance accounts are not required; Clubs and societies is 5.4 and Manufacturing accounts 5.5; and 6.3 is “Inter-firm comparison”. For this topic, the 2026 syllabus lists eight ratios without inventory turnover in days (mark-up appears only in its ratio appendix), names ROCE’s numerator “net profit before interest”, lists interested parties as owners, managers, trade payables, banks, investors, club members and others such as governments and tax authorities, and gives the limitations of accounting statements as historic cost, difficulties of definition and non-financial aspects. If you sit in November 2026, work from the 2026 syllabus on the Cambridge International website.

Condensed for the final weeks. For the full explanation and a complete two-year worked example, use the Analysis and Interpretation study guide. The figures come from the statements in Topic 5’s Preparation of Financial Statements.

The core question this topic answers

What do the financial statements say about the business, and who needs to know? Calculate the ratio, compare it (with last year or another business), then explain the change and what to do about it.

6.1 Calculation and understanding of accounting ratios

The p.21 formulas. Note: “Candidates must use the formulas given in the Accounting ratios included at the end of this section. These are the only formulas accepted in candidate responses.”

Ratio	Formula
Gross profit margin (%)	Gross profit ÷ Revenue × 100
Mark-up (%)	Gross profit ÷ Cost of sales × 100
Profit margin (%)	Profit for the year ÷ Revenue × 100
Return on capital employed (ROCE) (%)	Profit for the year before interest ÷ Capital employed × 100
— capital employed	issued shares + reserves + non-current liabilities
Current (working capital) ratio	Current assets : Current liabilities (answer presented as a ratio)
Acid test (liquid) ratio	(Current assets – inventory) : Current liabilities (answer presented as a ratio)
Rate of inventory turnover (times)	Cost of sales ÷ Average inventory
Inventory turnover (days)	Average inventory ÷ Cost of sales × 365 days
Trade receivables turnover (days)	Trade receivables ÷ Credit sales × 365 days
Trade payables turnover (days)	Trade payables ÷ Credit purchases × 365 days

Average inventory = (opening inventory + closing inventory) ÷ 2.

6.2 Interpretation of accounting ratios

Ratio	What it shows	A rise usually means
Gross profit margin	Gross profit earned on each $100 of revenue	Better pricing or cheaper purchases
Mark-up	Gross profit added to each $100 of cost of sales	Same story as the margin, measured on cost
Profit margin	Profit left from each $100 of revenue after all expenses	Better control of expenses (or better gross profit)
ROCE	Return before interest on each $100 of capital employed	Capital used more profitably
Current ratio	Current assets available for each $1 of current liabilities	Better able to pay short-term debts (but too high may mean idle resources)
Acid test	The same, without relying on selling inventory	Better immediate liquidity
Rate of inventory turnover	How many times inventory is sold and replaced in a year	Inventory sold faster
Inventory turnover (days)	Average days inventory is held	Inventory sold more slowly
Trade receivables turnover (days)	Average days customers take to pay	Customers paying more slowly — compare with credit allowed
Trade payables turnover (days)	Average days taken to pay suppliers	Paying more slowly — keeps cash, but risks supplier goodwill

Profitability indicators: the gross profit margin and the profit margin. A steady gross profit margin with a falling profit margin points to expenses; a falling gross profit margin points to prices, purchase costs or inventory.

Gross profit is affected by: the valuation of inventory (overvalued closing inventory overstates gross profit — see Topic 4’s Accounting Procedures); sales quantity (more units at the same prices raises gross profit, not the margin); changes in selling prices; changes in purchasing prices.

Profit for the year is affected by: changes in gross profit, other income (such as rent received) and expenses.

Comparison statements: set out two years side by side with the change, then comment on each significant change with a reason.

Recommendations:

• Profitability — raise selling prices where customers will accept it; find cheaper suppliers or trade discounts; cut unnecessary expenses; increase sales quantity.
• Liquidity — collect trade receivables faster (chase overdue accounts, offer cash discount); raise long-term finance rather than rely on an overdraft; sell unused non-current assets.
• Working capital — hold less inventory; use the full credit period suppliers allow; limit drawings or dividends.

Why cash and profit differ: depreciation (expense, no cash); buying non-current assets (cash, not an expense); changes in inventory, trade receivables and trade payables; accrued and prepaid expenses and income; irrecoverable debts and allowance changes; capital introduced, loans received and repaid, shares issued; drawings and dividends (cash out, not expenses in the statement of profit or loss).

6.3 Inter-business comparison

Factors that may affect two businesses’ ratios: type of goods or service; size and buying power; pricing policy; location; cash or credit sales; how each is financed; owned or rented premises and age of assets; accounting policies.

Problems of inter-business comparison: detailed statements may not be available; different accounting policies; different year-end dates; businesses not truly alike; historic figures and untypical years; non-financial aspects ignored.

6.4 Interested parties

Party	Main decision
Owners	Is the return worth it? Keep, expand or close?
Managers	Planning and control — prices, costs, inventory
Employees	Job security and pay
Banks	Lend or extend an overdraft? Can it repay with interest?
Investors and lenders	Invest or lend? Return and risk
Suppliers	Give credit, and how much?
Customers	Will the business keep supplying?
Governments / tax authorities	Tax due, grants, statistics
Club members	How subscriptions are used; surplus or deficit
Other interested parties, e.g. public and environmental bodies	Effect on the community and environment

6.5 Limitations of accounting statements

• Historic cost — assets at original cost, not current value; figures from different years are not in comparable money.
• Application of accounting policies — depreciation methods, inventory valuation and allowances are choices and estimates, so figures vary between businesses and after a change of policy.
• Non-financial aspects — e.g. skill of the workforce, location of the business, economic climate: not measured in money, so not shown.

Worked example: two years at a glance

Harbour Traders Limited (full statements in the study guide). Profit for the year $60,000 (2025) and $48,000 (2026); debenture interest $4,000 each year; capital employed $360,000 and $380,000.

Ratio                               2025          2026
Gross profit margin               40.00%        35.42%
Mark-up                           66.67%        54.84%
Profit margin                     15.00%        10.00%
ROCE                              17.78%        13.68%   (64,000 / 360,000; 52,000 / 380,000)
Current ratio                   2.50 : 1      1.86 : 1
Acid test                       1.50 : 1      1.00 : 1
Rate of inventory turnover    6.86 times    6.20 times
Inventory turnover            53.23 days    58.87 days
Trade receivables turnover    47.91 days    60.83 days   (credit allowed: 30 days)
Trade payables turnover       54.75 days    50.69 days   (credit received: 60 days)

Reading it: revenue rose but lower selling prices and higher purchase prices cut the gross profit margin; expenses rose $22,000 against a $10,000 rise in gross profit, so the profit margin and ROCE fell. Liquidity weakened because customers pay more slowly, inventory is held longer and suppliers are paid sooner — the business now has a $20,000 overdraft despite a $48,000 profit.

Exam traps

• Writing the current ratio or acid test as a percentage — present it as a ratio, e.g. 1.86 : 1.
• Using profit after interest in ROCE, or leaving non-current liabilities out of capital employed.
• Using closing inventory, not average inventory, for inventory turnover.
• Using total revenue for trade receivables turnover when credit sales are given.
• Swapping gross profit margin (÷ revenue) and mark-up (÷ cost of sales).
• Stating a change without explaining it, or giving a recommendation that does not match the weak ratio.
• Assuming profit means more cash.
• Reading “higher days” as good: more inventory or receivables days usually means slower, not better.

Self-test

1. State the formula for ROCE and what capital employed consists of.
2. Revenue is $90,000 and cost of sales is $63,000. Calculate the gross profit margin and the mark-up.
3. Why does the acid test leave out inventory?
4. Give two reasons why profit for the year can fall when gross profit rises.
5. Closing inventory is overvalued by $2,000. What is the effect on gross profit and profit for the year?
6. Name two factors, other than management performance, that may make two businesses’ ratios differ.
7. How might a supplier use a business’s accounting information?
8. Give the three causes of the limitations of accounting statements named in the syllabus.

Answers: 1. Profit for the year before interest ÷ capital employed × 100; capital employed = issued shares + reserves + non-current liabilities. 2. Gross profit $27,000; gross profit margin $27,000 ÷ $90,000 × 100 = 30.00%; mark-up $27,000 ÷ $63,000 × 100 = 42.86%. 3. Inventory is the current asset least easily turned into cash, so the acid test shows whether current liabilities can be paid without relying on selling it. 4. Any two: expenses rose by more than gross profit; other income fell; a new expense such as interest on a new loan appeared. 5. Both are overstated by $2,000, because cost of sales is understated by $2,000. 6. Any two: type of business; size; location; pricing policy; how each is financed; accounting policies; different year-end dates. 7. To decide whether to supply on credit and how much credit to allow, by checking liquidity and how quickly the business pays its trade payables. 8. Historic cost; the application of accounting policies; non-financial aspects (e.g. skill of the workforce, location of the business, economic climate).